Potholes In The Golden BRIC Road

Emerging market investing has been a hot-and-cold investing subject for three decades, and the BRIC countries of Brazil, Russia, India, and China have really tended to dominate the discussion over the past 10 to 15 years. While it is true that there is incredible promise in these countries, there are also more challenges and dangers than many investors realize. Investors would do well, then, to take a closer look at these economies and consider some of the risks that could undermine these "once in a lifetime" investment opportunities. (Brazil, Russia, India and China are becoming more popular for investing, but there is still plenty of risk among BRIC countries. Check out Understanding BRIC Investments.)
TUTORIAL: American Depositary Receipts





Rule of Law




Other Problems
One common problem among emerging market economies is "Dutch Disease", an economic phenomenon where the earnings generated by natural resource exports undermine and discourage the development of consumer goods, manufacturing, and technology industries in the country. Ultimately, then, these countries become beholden to the vagaries of commodity prices and there is little internal demand to drive the improvements in education and training necessary for a modern competitive economy.

Among the BRIC nations, Dutch Disease is not a pressing problem for India or China, particularly as China has moved aggressively to transition from an assembler of low-quality/low-priced exports to a full-fledged industrial economy. Russia has some vulnerability in the wake of the hollowing-out of its industrial sector (and its universities) and the importance of its reserves of petroleum and industrial metals. Brazil, though, is the most at risk here. Brazil's economic growth has almost always been predicated on exporting natural products found within its borders - whether renewable resources like lumber or agricultural products, or mined resources like iron and petroleum. While Brazil does boast a strong regional steel industry, Brazil has yet to develop very many globally competitive companies in manufacturing, technology, or consumer goods.

It is still a very touchy and controversial subject, but there is an institutionalized classicism that still shapes India. A person's caste status can impact educational options, work options, social options (marriages and friendships) and access to capital and opportunities. Prospectively, then, millions of otherwise talented, capable and motivated Indians are shut out from their full realization of their talents. Classicism and racism are also problematic in Brazil and an under-appreciated issue in many parts of Russia and China as well.

The centralized government of China creates other problems as well. Planned economies have inherent inefficiencies and the direct interference of China's government in business has led to an inefficient allocation of capital. This is perhaps best typified by the current problems in the banking and property sector - property bubbles are a major threat in major Chinese cities and banks are saddled with billions in what are likely to become nonperforming loans.

The Bottom Line
These points are not meant to bury the BRIC nations, nor scare investors away from their investments in these markets. Rather, it is meant as a counterbalance to what is often an unrelenting barrage of positive news, hype and guidance that investors must invest here or be left behind. The risks that go with the BRIC economies feed directly into the gains that investors can expect, and so long as investors go into these markets with their eyes open and well aware of the challenges, there are still significant rewards to be had as these countries work to progress economically and socially. (You might be better off playing roulette if you don't understand the risks of investing here. Refer to Investing In Russia: A Risky Game?)

comments powered by Disqus
Trading Center