FE Adviser Fund Index

The economic crisis in the Western world was spelled out by the International Monetary Fund last week.

Those in any doubt as to the severity of the recent slowdown were given a rude awakening as the IMF downgraded its forecast for advanced economies in 2012, predicting expansion of just 1.2 per cent.

This represented a downward revision of 0.75 per cent from the forecast last September, with the 1.9 per cent projection for 2013 offering little solace.

Speaking in Berlin, IMF managing director Christine Lagarde placed the responsibility firmly on the shoulders of policymakers. She said: “Policymakers let an old wound fester and, in doing so, made the situation worse. Looking at it from this perspective, 2012 must be a year of healing. But as Hippocrates said, ’Healing is a matter of time but it is sometimes also a matter of opportunity’.”

She said the debt ceiling debacle in the US, together with the impasse over a resolution for the eurozone’s sovereign debt problems, has led to a deterioration of both economic activity and sentiment. In particular, Lagarde warned that countries are in danger of falling into isolationism rather than looking to a co-ordinated, co-operative response to the crisis.

With a prolonged period of stagnation now on the cards for the West, however, the question for investors of where to put their money is of pressing importance.
The lure of emerging markets, particularly those with a track record of prudent economic policies and strong growth, may seem all the more appealing. Over the past three years, the MSCI Bric index has returned 78.05 per cent, according to FE Analytics.

Chelsea Financial Services managing director and FE Adviser Fund Index panellist Darius McDermott says: “Investors realise these markets are still volatile and a number of them had a bad time last year.

“That said, they now account for 31 per cent of the global marketplace and are widely underheld in portfolios. I would expect the structural allocation towards these markets to increase.”

McDermott would not be the first to point to the volatile nature of emerging market investment relative to their developed market peers. However, much of this volatility is self-fulfilling in that it is predominantly caused by high levels of foreign investment when conditions appear favourable and capital flight when the situation worsens.

If the structural allocation towards these markets increases, investors should see a simultaneous reduction in the volatility associated with their investment. After all, the fundamental principle of capitalism is the movement of capital to productive areas at the expense of unproductive sectors.

The case for investing in the Brics can also be made on valuation grounds. The Bric market is currently trading at 9.6 times forward earnings against an average of 11.9 times for the non-Brics.

As history has demonstrated, these markets cannot avoid contagion if the West fails to resolve its fundamental weaknesses. Lagarde left little ambiguity in her warning to policymakers on both sides of the Atlantic.

She said: “What we must all understand is that this is a defining moment. It is not about saving any one country or region. It is about saving the world from a downward economic spiral. It is about avoiding a 1930s’ moment, in which inaction, insularity and rigid ideology combine to cause a collapse in global demand.”

Data provided by FE