The Emerging Market Sand Trap: Financial Reports, Currency & Other Risks (Epoch Times)

Warren Song, a New York-based financial consultant, has written a lengthy piece for the Epoch Times about how investing in emerging markets can be a sand trap for investors. Song first noted that in the stock markets of many developing countries, the degree of fake financial reporting corresponds to the degree of corruption in society as a whole. He then commented:

Since there are so many opportunities in developed countries where financial reports are generally trustworthy, especially in the United States, one should not invest in the stock markets in developing countries, where companies similar to WorldCom and Lehman Brothers are everywhere.

And:

The golden rule in investment: If you cannot trust the financial report of a company, then do not invest.

Song also wrote that if you do decide to invest in emerging markets, there are two risks that you need to address or be aware of:

1. The degree of trust in their financial reporting.
2. The currency risk factor because the currencies of most developing countries have depreciated substantially over time.

To illustrate the latter point, Song pointed out:

1. South African rand, introduced 1961: Then a U.S. dollar can buy less than 1 rand, now it can buy more than 8.
2. Indian rupee, introduced 1947: Then it was one to one with U.S. dollar, now $1 can buy 59 rupee.
3. Brazilian real, introduced 1994: Then one to one with U.S. dollar, now $1 can buy more than 2 real (the old currency was a disaster).
4. Turkish old lira: The U.S. dollar brought an average of 9 in the 1960s, it dropped to around 222 in 1995 (from around 759 in 1988) (the new currency was introduced in 2005).
5. The Malaysian ringgit, introduced around 1995, fared much better: The U.S. dollar could fetch 2.5 and now a little more 3.2 (it has a chance to become a developed country in the next 10 years).

To read the whole article, The Sand Trap of Emerging Markets Equity Pricing, go to the website of the Epoch Times.

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