Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

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HEDGEFUNDIE
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by HEDGEFUNDIE » Mon Jan 14, 2019 2:32 am

fennewaldaj wrote:
Mon Jan 14, 2019 2:25 am
SoonerD wrote:
Mon Jan 14, 2019 12:32 am

Do the E.M. Index Funds typically include the countries run by dictators? Let's exclude the almost dictatorish run countries like China. Do the EM Index funds include countries with dictatorships and if so is it any meaningful percentage of the fund.

My guess is an E.M. fund that is say 5-10% of one's portfolio would have less than 0.5% total portfolio exposure to dictators. For the record, I don't invest in E.M.
I think maybe they are being a bit loose with the term and considering the leaders of China and Russia as dictators. Though I do think the general point is valid. It is perfectly reasonable to not want to invest in countries if you find the leaders abhorrent (assuming you know enough to make that judgement). I don't invest like this but it seems perfectly reasonable. It is actually almost surprising there is not an ESG style fund that only invest in democratic Emerging Markets.
Two links you might find interesting:

https://www.morganstanley.com/im/public ... esg_en.pdf

https://www.msci.com/documents/10199/c3 ... d864cae53e

Valuethinker
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by Valuethinker » Mon Jan 14, 2019 3:26 am

Ben Mathew wrote:
Mon Jan 14, 2019 1:31 am
nedsaid wrote:
Sun Jan 13, 2019 8:10 pm
Ben Mathew wrote:
Sun Jan 13, 2019 1:19 pm
It's not possible to overstate earnings year after year after year without creating a massive gap between book value and true value over the course of many years.
Oh yes it is. Microsoft has a book value of $9 per share. The stock market values Microsoft at $102 a share. Is market value the true value of Microsoft?

In Microsoft's case, could it be that earnings were dramatically understated?

I have posted a few times about this very issue and used Microsoft as an example. I also have questioned the relevance of book value as a metric. There is something out there that the accountants are missing. The difference between $9 book value and $102 of stock market value can't all be speculation.
Accounting tends to be conseravative, and will usually undervalue companies. So book value ends up being less than true market value. Microsoft's case is just a more extreme version of the typical scenario. There is no natural force that will cause this accounting error to blow up. The book value just looks more and more ridiculously low over time. But nothing blows up.

But fraudulent accounting that overstates earnings should, over time, result in a book value that is far greater than actual value. That, I think, will eventually have to blow up. Suppose the actual value was $9, and the accountants are saying it's $102. Somebody's bound to ask questions eventually. Where are the missing factories and laptops? Where's the profit that these assets should generate? Where are the bank accounts?
Probably not.

The reason is GAAP is very conservative about intangibles.

You basically can only capitalize intangibles upon acquisition.

Thus brands like Disney, Coke, Amazon, Starbucks, Microsoft, Google which were developed internally have very little value on the Balance Sheet.

Yet it's clear those companies have their huge valuations because of what their intangible assets generate. The value of their market positions, proprietary technology, systems, processes, culture, know how, brand image.

A colleague had a number that in 1970 something like 70% of the assets of the S&P 500 were tangible fixed assets - oil refineries, factories etc.

Now? That number is under 20%.

Where you see the evidence of overstated earnings in the long run is in cash and cash flow. That was the Enron problem.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by Valuethinker » Mon Jan 14, 2019 3:31 am

nedsaid wrote:
Sun Jan 13, 2019 8:10 pm
Ben Mathew wrote:
Sun Jan 13, 2019 1:19 pm
It's not possible to overstate earnings year after year after year without creating a massive gap between book value and true value over the course of many years.
Oh yes it is. Microsoft has a book value of $9 per share. The stock market values Microsoft at $102 a share. Is market value the true value of Microsoft?

In Microsoft's case, could it be that earnings were dramatically understated?

I have posted a few times about this very issue and used Microsoft as an example. I also have questioned the relevance of book value as a metric. There is something out there that the accountants are missing. The difference between $9 book value and $102 of stock market value can't all be speculation.
The problem is capitalization of intangibles. You can't do that in US GAAP unless you acquire them, as I understand it. And once acquired, you cannot write them up (which you can do in IFRS).

Disney, Amazon, Starbucks, Microsoft, Google, Facebook are all about their intangible assets -- their brand, proprietary software, cultures & internal processes -- not about physical assets.

In an economic sense those will produce future value (meeting the accounting definition of an asset). However GAAP is inherently more conservative vs. tangible assets.

It's a bit like you or me buying Google shares at IPO at say $80? They go to $500, but we value them in our portfolio at $80/ share. Our portfolio valuation is not representative of their true value.

As per my other post a colleague produced an estimate than in 1970 70% of the value of S&P 500 companies was in Tangible Fixed Assets. Now it's less than 20%.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by samsdad » Mon Jan 14, 2019 6:16 am

fennewaldaj wrote:
Mon Jan 14, 2019 2:25 am
SoonerD wrote:
Mon Jan 14, 2019 12:32 am

Do the E.M. Index Funds typically include the countries run by dictators? Let's exclude the almost dictatorish run countries like China. Do the EM Index funds include countries with dictatorships and if so is it any meaningful percentage of the fund.

My guess is an E.M. fund that is say 5-10% of one's portfolio would have less than 0.5% total portfolio exposure to dictators. For the record, I don't invest in E.M.
I think maybe they are being a bit loose with the term and considering the leaders of China and Russia as dictators. Though I do think the general point is valid. It is perfectly reasonable to not want to invest in countries if you find the leaders abhorrent (assuming you know enough to make that judgement). I don't invest like this but it seems perfectly reasonable. It is actually almost surprising there is not an ESG style fund that only invest in democratic Emerging Markets.
I’m not sure if there’s a bright line that one crosses over and then one reaches official “dictator” status. I think it’s a case of you know it when you see it. As another poster alluded to, there’s also the issue of not wanting to invest in countries that have official or unofficial political beliefs and ingrained cultural beliefs that are traditionally considered as working against free enterprise, self determination, capitalism etc. I think it’s a judgment call, and lies on a continuum where no country (incl. US) is above the fray.

Does this position cost me diversification? Obviously. But it’s a bet, a gamble, an example of “active management,” a tilt, or whatever you want to call it away from a supposedly omniscient market-weighting that I’ve chosen to take. I think it has a logical foundation.

Is it an optimum position? No, probably not. I never said it was. I never claimed to know more than the market, though some might interpret my position otherwise.

Here’s the real issue: I do have a memory. And I do take note when a political system doesn’t appear to be working for free enterprise, individual liberty, capitalism, etc. There seems to be a real push lately for American dollars to flow to foreign countries and their equities for no other reason than “they’re different!” and that’s supposedly always good for your portfolio risk. I understand that things ebb and flow, and that countries change.* That said, we’ve been in hot or cold conflict with one or more of these countries, and especially some of their political systems, on more than one occasion.

The market seems to have an extremely short memory for this. It appears to be nearly ahistorical sometimes. It also appears to turn a blind eye to current events. Is China making money? Tons of it. But I’m not a believer in making money above all else, with whomever I can. China is run by communists. The same communism we’ve fought for awhile. And I’m not just picking on China. There are many other countries that I can’t invest in either. To the extent that participants in a secondary market support the existence of a primary market, and therefore the economy of a country to that extent, I think consideration of the tertiary consequences of such investing is, at least, warranted.

I’m taking a risk by being 100% US equities. I’m aware that we might Japan it for the rest of my life. I’m aware that international might outperform starting today and that I’ll be missing out for the rest of my investing horizon. I’ve accepted these consequences. I certainly don’t blame anyone for investing internationally.** It’s a big world, and I could very much be wrong. I hope I am actually; for international outperformance would probably mean that freer markets and development are occurring, which can lead to a better life for the populations in those countries.


______
* Of course, the US is not above this either. However, I live here. I have a say to an extent about what goes on here. I can keep tabs about what’s going on here much better than, say, India. And I don’t have a voice in India.

** I have recommended Wellington to others for example, which has of course about 10%+ international in its equities side. In fact my parents and I hold it in a joint account.

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fortyofforty
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by fortyofforty » Mon Jan 14, 2019 6:59 am

patrick wrote:
Sun Jan 13, 2019 10:21 pm
fortyofforty wrote:
Sun Jan 13, 2019 8:20 pm
patrick wrote:
Sun Jan 13, 2019 3:37 pm
China is the only one of your examples that actually is in emerging markets funds. Iraq and Libya never even qualified as frontier markets let alone emerging markets. Venezuela used to be in the emerging markets index but was kicked more than a decade ago.

There is surely some risk the Chinese government will take actions harmful to the interests of investors. But that risk exists in every country, including the United States. The risk may well be higher in China, but for it to be a bad investment decision to include China, there would have to also be something preventing the market from pricing in the extra risk.
Given that, why would Venezuela be "kicked out" of an index? Shouldn't we rather let "the market" decide whether and how much to invest in Venezuelan companies? Anything else is not a pure market-driven metric.
It was removed due to the imposition of highly restrictive exchange controls. If you aren't allowed to move money in and out of a country, does it even count as part of the market at all? Either way, it doesn't matter much because the total market cap of Venezuelan stocks (if calculated using the market exchange rate instead of the official one) is a tiny fraction of a percent of global market cap.
That's why it's a reasonable strategy to restrict investments to developed markets. Let those who create that specific set of index criteria judge which countries are and are not worthy of inclusion, and roll your ex-U.S. money there. In any case, there is no right or wrong strategy, only what each individual investor chooses as his or her path.
"In a time of universal deceit, telling the truth becomes a revolutionary act." - George Orwell | Diligentia. Vis. Celeritas. - Jeff Cooper | Original Vanguard Diehard

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by nisiprius » Mon Jan 14, 2019 7:17 am

fortyofforty wrote:
Sun Jan 13, 2019 8:20 pm
...Given that, why would Venezuela be "kicked out" of an index? Shouldn't we rather let "the market" decide whether and how much to invest in Venezuelan companies? Anything else is not a pure market-driven metric...
Being "purely market-driven" only makes sense if there is a market. What matters here is not "market" in the sense of a place where people can buy and sell things, but a "market" in the sense of a place where people freely buy and sell things, on a level playing field, with accurate and transparent information about the nature of what is being bought and sold so that value can be assessed.

If someone auctions off a sealed box, and the only information about it is that it might be empty or might contain a diamond, and that is literally the only information--you have never seen the seller before, there are no records or accounts of previous similar sales--the market might well set a price on it. But the market is not supernatural. It can't look through brick walls or see into the future.

If someone offers a box for sale, and it might contain a diamond--but if it does, the seller will use sleight-of-hand to remove the diamond before the buyer receivers it--well, the market might well set a price on it but that price would be even less appropriate. The market would have to read minds, too.

As things get shakier and shakier, it is conceivable that the market might be able to set a price that would be accurate in the sense of a probabilistic average--what percentage of people offering possible diamonds in sealed boxes really put the diamond in--but it can't affect the increasing amount of risk. The less you know about something, the greater the range of difference between what people are willing to pay now and what people are willing to pay a year later.

And as honesty and manipulation come into the picture, your valuation is based less and less on observable money values and more and more on a far less objective assessment of the amount of honesty or manipulation.

We can observe that people in fact get taken in by Nigerian email scams and other con games. The amount that people are willing to pay the con artist is a market valuation of the game. That doesn't mean that a Nigerian email business offer is a wise investment that is worth the market value.
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by nisiprius » Mon Jan 14, 2019 7:22 am

The other point about marginal national stock markets, such as "frontier markets," is that it doesn't actually make any difference whether you include them or not, because they are such a negligible percentage by cap weight that you actually can't tell if they are included in a global portfolio or not. This is almost true of emerging markets, as I showed above in my scatter diagram. So there's really no point doing bull-session assessments of the potential value or situational ethics of including a Petro (official Venezuelan cryptocurrency) allocation in your portfolio.
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by ignition » Mon Jan 14, 2019 7:36 am

samsdad wrote:
Mon Jan 14, 2019 6:16 am
Here’s the real issue: I do have a memory. And I do take note when a political system doesn’t appear to be working for free enterprise, individual liberty, capitalism, etc. There seems to be a real push lately for American dollars to flow to foreign countries and their equities for no other reason than “they’re different!” and that’s supposedly always good for your portfolio risk. I understand that things ebb and flow, and that countries change.* That said, we’ve been in hot or cold conflict with one or more of these countries, and especially some of their political systems, on more than one occasion.

The market seems to have an extremely short memory for this. It appears to be nearly ahistorical sometimes. It also appears to turn a blind eye to current events. Is China making money? Tons of it. But I’m not a believer in making money above all else, with whomever I can. China is run by communists. The same communism we’ve fought for awhile. And I’m not just picking on China. There are many other countries that I can’t invest in either. To the extent that participants in a secondary market support the existence of a primary market, and therefore the economy of a country to that extent, I think consideration of the tertiary consequences of such investing is, at least, warranted.
If you look at the longer term emerging markets did quite well so not sure about the short term memory.

For example MSCI emerging markets returned 10.4% annualised since 01/01/1988.

The last 10 years were pretty bad of course while American stocks rallied which is clouding some people's judgement I think. If you extend the period to 01/01/2000 emerging markets outperformed the US stock market.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by rkhusky » Mon Jan 14, 2019 9:51 am

fortyofforty wrote:
Sun Jan 13, 2019 9:59 pm
If we are going to pick and choose which countries are included in widely used and touted indexes, then there is nothing inherently "wrong" if some index excludes all emerging markets, or China, or Turkey, or Russia... Once we're picking and choosing, there is no moral "high ground" for someone using any particular index.
Of course not. There are plenty of indexes that do not include EM stocks. There are indexes that only include US stock. Mutual fund companies can choose to follow whatever indexes they want.

And if you are concerned with morality, there are even indexes that filter stock selections based on a set of moral rules.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by fortyofforty » Mon Jan 14, 2019 10:03 am

nisiprius wrote:
Mon Jan 14, 2019 7:17 am
fortyofforty wrote:
Sun Jan 13, 2019 8:20 pm
...Given that, why would Venezuela be "kicked out" of an index? Shouldn't we rather let "the market" decide whether and how much to invest in Venezuelan companies? Anything else is not a pure market-driven metric...
Being "purely market-driven" only makes sense if there is a market. What matters here is not "market" in the sense of a place where people can buy and sell things, but a "market" in the sense of a place where people freely buy and sell things, on a level playing field, with accurate and transparent information about the nature of what is being bought and sold so that value can be assessed.
That would exclude several stock markets, or at least large portions of several stock markets.

Back in the day, South Africa was excluded for political and moral reasons. A good case could be made that several current emerging markets are as or more brutal to large segments of their populations, but they're included. There is not much consistency.
"In a time of universal deceit, telling the truth becomes a revolutionary act." - George Orwell | Diligentia. Vis. Celeritas. - Jeff Cooper | Original Vanguard Diehard

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by nedsaid » Mon Jan 14, 2019 11:21 am

Ben Mathew wrote:
Mon Jan 14, 2019 1:31 am
nedsaid wrote:
Sun Jan 13, 2019 8:10 pm
Ben Mathew wrote:
Sun Jan 13, 2019 1:19 pm
It's not possible to overstate earnings year after year after year without creating a massive gap between book value and true value over the course of many years.
Oh yes it is. Microsoft has a book value of $9 per share. The stock market values Microsoft at $102 a share. Is market value the true value of Microsoft?

In Microsoft's case, could it be that earnings were dramatically understated?

I have posted a few times about this very issue and used Microsoft as an example. I also have questioned the relevance of book value as a metric. There is something out there that the accountants are missing. The difference between $9 book value and $102 of stock market value can't all be speculation.
Accounting tends to be conseravative, and will usually undervalue companies. So book value ends up being less than true market value. Microsoft's case is just a more extreme version of the typical scenario. There is no natural force that will cause this accounting error to blow up. The book value just looks more and more ridiculously low over time. But nothing blows up.

But fraudulent accounting that overstates earnings should, over time, result in a book value that is far greater than actual value. That, I think, will eventually have to blow up. Suppose the actual value was $9, and the accountants are saying it's $102. Somebody's bound to ask questions eventually. Where are the missing factories and laptops? Where's the profit that these assets should generate? Where are the bank accounts?
The Generally Accepted Accounting Standards are actually very good, the public companies are audited, and the accountants do a conscientious job. What I am saying is that there are limitations to what accountants can do. A company is worth more than the sum of its parts, there is a "going concern" intangible value to a business that develops a brand, a franchise, loyal customers. There is a momentum that develops and a company takes on a life of its own. It is a real thing but difficult to value. A big reason that companies are mostly valued as a multiple of their earnings and not property, plant, equipment, and bank accounts on the balance sheet. How do you value intangibles like patents? Or the franchise value of Microsoft Office?
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by nedsaid » Mon Jan 14, 2019 11:23 am

Valuethinker wrote:
Mon Jan 14, 2019 3:31 am
nedsaid wrote:
Sun Jan 13, 2019 8:10 pm
Ben Mathew wrote:
Sun Jan 13, 2019 1:19 pm
It's not possible to overstate earnings year after year after year without creating a massive gap between book value and true value over the course of many years.
Oh yes it is. Microsoft has a book value of $9 per share. The stock market values Microsoft at $102 a share. Is market value the true value of Microsoft?

In Microsoft's case, could it be that earnings were dramatically understated?

I have posted a few times about this very issue and used Microsoft as an example. I also have questioned the relevance of book value as a metric. There is something out there that the accountants are missing. The difference between $9 book value and $102 of stock market value can't all be speculation.
The problem is capitalization of intangibles. You can't do that in US GAAP unless you acquire them, as I understand it. And once acquired, you cannot write them up (which you can do in IFRS).

Disney, Amazon, Starbucks, Microsoft, Google, Facebook are all about their intangible assets -- their brand, proprietary software, cultures & internal processes -- not about physical assets.

In an economic sense those will produce future value (meeting the accounting definition of an asset). However GAAP is inherently more conservative vs. tangible assets.

It's a bit like you or me buying Google shares at IPO at say $80? They go to $500, but we value them in our portfolio at $80/ share. Our portfolio valuation is not representative of their true value.

As per my other post a colleague produced an estimate than in 1970 70% of the value of S&P 500 companies was in Tangible Fixed Assets. Now it's less than 20%.
Thank you. This reinforces the point I was trying to make.
A fool and his money are good for business.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by alex_686 » Mon Jan 14, 2019 11:26 am

nedsaid wrote:
Mon Jan 14, 2019 11:21 am
A big reason that companies are mostly valued as a multiple of their earnings and not property, plant, equipment, and bank accounts on the balance sheet. How do you value intangibles like patents? Or the franchise value of Microsoft Office?
To extend on this, the explanatory power of P/B has been falling, for the exact reason you imply. There are exceptions. P/B still works for banks. I suspect that their are a fair number of EM companies where this still holds - basic materials, transportation, and heavy construction.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by Valuethinker » Mon Jan 14, 2019 11:30 am

fortyofforty wrote:
Mon Jan 14, 2019 10:03 am
nisiprius wrote:
Mon Jan 14, 2019 7:17 am
fortyofforty wrote:
Sun Jan 13, 2019 8:20 pm
...Given that, why would Venezuela be "kicked out" of an index? Shouldn't we rather let "the market" decide whether and how much to invest in Venezuelan companies? Anything else is not a pure market-driven metric...
Being "purely market-driven" only makes sense if there is a market. What matters here is not "market" in the sense of a place where people can buy and sell things, but a "market" in the sense of a place where people freely buy and sell things, on a level playing field, with accurate and transparent information about the nature of what is being bought and sold so that value can be assessed.
That would exclude several stock markets, or at least large portions of several stock markets.

Back in the day, South Africa was excluded for political and moral reasons. A good case could be made that several current emerging markets are as or more brutal to large segments of their populations, but they're included. There is not much consistency.
SA also had foreign exchange controls and restrictions on investment.

So it wasn't just a moral choice.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by nedsaid » Mon Jan 14, 2019 11:34 am

alex_686 wrote:
Mon Jan 14, 2019 11:26 am
nedsaid wrote:
Mon Jan 14, 2019 11:21 am
A big reason that companies are mostly valued as a multiple of their earnings and not property, plant, equipment, and bank accounts on the balance sheet. How do you value intangibles like patents? Or the franchise value of Microsoft Office?
To extend on this, the explanatory power of P/B has been falling, for the exact reason you imply. There are exceptions. P/B still works for banks. I suspect that their are a fair number of EM companies where this still holds - basic materials, transportation, and heavy construction.
This is what I have been trying to tell the quants. Accounting involves judgements and there are such things as accruals based upon estimates. So accounting isn't an exact science. It is based in part upon educated guesses. So there is a bit of fuzziness in the numbers to begin with. You also have to know a bit about accounting theory and the assumptions behind the numbers.

The increasing irrelevance of book value might be one reason that P/E ratios have been climbing. The market realizes the limitations of accounting and has adjusted for it. I have wondered if earnings have been accurately stated as they don't account for the rising value of intangible assets.
A fool and his money are good for business.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by MnD » Mon Jan 14, 2019 11:41 am

ignition wrote:
Mon Jan 14, 2019 7:36 am
samsdad wrote:
Mon Jan 14, 2019 6:16 am
Here’s the real issue: I do have a memory. And I do take note when a political system doesn’t appear to be working for free enterprise, individual liberty, capitalism, etc. There seems to be a real push lately for American dollars to flow to foreign countries and their equities for no other reason than “they’re different!” and that’s supposedly always good for your portfolio risk. I understand that things ebb and flow, and that countries change.* That said, we’ve been in hot or cold conflict with one or more of these countries, and especially some of their political systems, on more than one occasion.

The market seems to have an extremely short memory for this. It appears to be nearly ahistorical sometimes. It also appears to turn a blind eye to current events. Is China making money? Tons of it. But I’m not a believer in making money above all else, with whomever I can. China is run by communists. The same communism we’ve fought for awhile. And I’m not just picking on China. There are many other countries that I can’t invest in either. To the extent that participants in a secondary market support the existence of a primary market, and therefore the economy of a country to that extent, I think consideration of the tertiary consequences of such investing is, at least, warranted.
If you look at the longer term emerging markets did quite well so not sure about the short term memory.

For example MSCI emerging markets returned 10.4% annualised since 01/01/1988.

The last 10 years were pretty bad of course while American stocks rallied which is clouding some people's judgement I think. If you extend the period to 01/01/2000 emerging markets outperformed the US stock market.
I went global market cap in early 2001 (including EM in the proper weight) and have no complaints. With real-world portfolio behavior (initial balance, new money added annually and rebalancing) global market cap was even or ahead of US from 2001 until around mid-2013. Overall my real-world 2001-2018 equity portfolio is 10.83% CAGR versus 12.00% CAGR for US-only, but it would not take that much ex-US outperformance to even the score again or put global cap ahead. US-only single-country risk may or may not show up, but the whole point of diversification is not to "out-perform" a less diversified approach or to avoid known or certain risks but rather, to be positioned such that ones portfolio isn't torpedoed by any number of unexpected specific risks as well as being able to participate in any number of unexpected positive outcomes.

I'm enjoying the various ex-US biases expressed in this thread (expensive Frosted Flakes in Fiji and binning entire countries as "bad apples"). As long as some investors base their decision-making on such biases, along with fear of shallow risks it make a great contrarian case for staying the course on global investing.
Last edited by MnD on Mon Jan 14, 2019 11:51 am, edited 1 time in total.

alex_686
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by alex_686 » Mon Jan 14, 2019 11:45 am

nedsaid wrote:
Mon Jan 14, 2019 11:34 am
This is what I have been trying to tell the quants.
Actually, I was getting my information from the quants, so I assume they already know.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by nedsaid » Mon Jan 14, 2019 11:53 am

alex_686 wrote:
Mon Jan 14, 2019 11:45 am
nedsaid wrote:
Mon Jan 14, 2019 11:34 am
This is what I have been trying to tell the quants.
Actually, I was getting my information from the quants, so I assume they already know.
Well, I would certainly hope so. It reminds me of the discussion of P/E 10 and the absolute certitude people have about the numbers and predictive market models. It seems that many people think investing is like physics, you just put in the right number into the formula, turn the crank and the correct answer pops out. What my high school physics teacher called "plug and chug." The reason this is not exact is that there is some fuzziness in the numbers and that markets can be emotionally driven. Human emotion and human behavior is the wild card that makes this so difficult. Also, I am not aware that the soft science of investing has constants, so this is another thing different from physics. It seems that some quants, particularly engineers, can't always seem to grasp this. Investing is not an engineering problem or a formula to be solved.
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by MnD » Mon Jan 14, 2019 1:54 pm

Being properly diversified requires owning a bunch of things you don't like.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by LadyGeek » Mon Jan 14, 2019 4:34 pm

I removed several off-topic posts related to cultural stereotypes. Also, several contentious posts were removed. As a reminder, see: General Etiquette
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by fortyofforty » Mon Jan 14, 2019 7:10 pm

Valuethinker wrote:
Mon Jan 14, 2019 11:30 am
fortyofforty wrote:
Mon Jan 14, 2019 10:03 am
nisiprius wrote:
Mon Jan 14, 2019 7:17 am
fortyofforty wrote:
Sun Jan 13, 2019 8:20 pm
...Given that, why would Venezuela be "kicked out" of an index? Shouldn't we rather let "the market" decide whether and how much to invest in Venezuelan companies? Anything else is not a pure market-driven metric...
Being "purely market-driven" only makes sense if there is a market. What matters here is not "market" in the sense of a place where people can buy and sell things, but a "market" in the sense of a place where people freely buy and sell things, on a level playing field, with accurate and transparent information about the nature of what is being bought and sold so that value can be assessed.
That would exclude several stock markets, or at least large portions of several stock markets.

Back in the day, South Africa was excluded for political and moral reasons. A good case could be made that several current emerging markets are as or more brutal to large segments of their populations, but they're included. There is not much consistency.
SA also had foreign exchange controls and restrictions on investment.

So it wasn't just a moral choice.
Like China?
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by HEDGEFUNDIE » Mon Jan 14, 2019 8:31 pm

If you’re going to worry about the culture of capitalism in foreign countries, that would make the case for investing in EM stronger vs investing in other developed countries outside the US.

In France we are seeing a huge backlash to Macron’s modest capital-friendly reforms. Germany has mandatory workers’ councils and employees on companies’ boards. Japan still venerates the ideal of lifetime employment with a single employer.

Emerging markets have none of these drags on growth.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by JackoC » Tue Jan 15, 2019 11:11 am

The idea that widespread accounting fraud systematically overvalues (I guess nobody is claiming it undervalues...) EM companies is highly doubtful IMO. There are problems with the effective corporate structure of some EM co's, or even former EM's which have 'graduated' according to some indexes. South Korea is the classic example. The ROK itself is a developed country by any reasonable measure. The leading companies are formidable competitors, often in very high tech sectors. But the corporate ownership system is still arguably biased in favor of founding families and against outsider public stock investors. But this isn't done by Enron-style accounting fraud. It's more subtle. But not too subtle to somehow escape the notice of investors. ROK companies tend to trade at lower P/E multiples than overseas equivalents because of it, the Korean Discount. The market could be getting the correct degree of that discount wrong, just like it could be getting it wrong in its very high valuation of the US stock market. But I don't see a big difference in distrusting one of those market judgments v. another.

That's just one example, but I think in general and as usual there are lots of generalizations, true to at least some extent, about potential problems for outside investors in EM public stock companies without a lot of explanation why it's believed that these result in systematically biased market valuations of those companies, which is what 'cannot be fairly valued' would have to mean IMO. As opposed to higher risk in those valuations (higher risk to the valuation is not 'cannot be valued'). Systematic mispricing is an extraordinary claim, requires extraordinary evidence. More risk is a much more straightforward, even obvious, claim.

On 'dictators' this is a potentially rational but likely *non investing* reason not to invest in public stock co's of companies domiciled in such countries. Just like not investing in coal mining companies, say, domiciled in the US. It would perhaps be different socio-political outlooks that would result in shunning one or another of those type of companies, but the same type of reason. Not because you think you know better than the market that dictators or the business of coal will result in lower future risk adjusted returns, but rather things about dictators and the coal business you don't like based on your socio-political (what you might claim are your 'moral') views. Separately, one might do enough research to validly reach the conclusion that the market is overvaluing dictator or coal companies, and avoid them (or short them) till the market corrects itself. But that would have nothing to do with one's own view of dictators or coal. Where it would, and does IMO often, tend to irrationality is if you didn't like to be invested in 'dictator' or coal companies because of your socio-political views, but then convinced yourself it was strictly a risk/return decision when it wasn't.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by Dialectical Investor » Tue Jan 15, 2019 4:33 pm

ignition wrote:
Sun Jan 13, 2019 7:48 am

The four biggest firms that audit the financial statements of companies. If they do their job correctly, numbers should be more or less correct.
The overall numbers are never really known to be "correct" in the sense that they are representations of the true numbers. That's because in many cases there is no single true number. Accounting rules and principles provide for a variety of assumptions, choice of methods, and estimates. The auditor will usually issue a clean opinion by stating the statements are a "fair" representation in all material respects in accordance with whatever principles are to be applied, like GAAP. Only fair, and only in accordance with certain principles, which may themselves provide for a degree of subjective interpretation. If anything is represented as "true" (which it sometimes is), it can only be within a framework that includes continuing uncertainty and estimates of measurement. The principles themselves are of great importance, and GAAP, while not without its own curiosities, is generally considered to be more "rules-based" in an attempt in part to provide less room for manipulation. Once it seemed there would be more uniform reporting standards worldwide, and while there has been substantial convergence, the objective of full convergence appears to have been abandoned.

That is to say, just because the auditor is the same doesn't mean the numbers are comparable. The standards are what matter. And further, as the largest firms are somewhat loosely structured, what holds them together looks to me to be more like bakery string than glue.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by Dialectical Investor » Tue Jan 15, 2019 4:49 pm

nedsaid wrote:
Mon Jan 14, 2019 11:34 am

The increasing irrelevance of book value might be one reason that P/E ratios have been climbing. The market realizes the limitations of accounting and has adjusted for it. I have wondered if earnings have been accurately stated as they don't account for the rising value of intangible assets.
Hmm... Well, book value has no direct relationship with P/E, and investors paying less mind to it would not cause P/E ratios to increase. And related to what I mentioned above, earnings are never accurately stated--only fairly stated. Also, most assets are not valued at fair market value because FMV can be difficult or impossible to determine and could result in drastic manipulation of numbers. Heck, even consider a retailer whose inventory has increased in value. Would it count this as income? Of course not.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by ignition » Wed Jan 16, 2019 5:05 am

dialecticalinvestor wrote:
Tue Jan 15, 2019 4:33 pm
ignition wrote:
Sun Jan 13, 2019 7:48 am

The four biggest firms that audit the financial statements of companies. If they do their job correctly, numbers should be more or less correct.
The overall numbers are never really known to be "correct" in the sense that they are representations of the true numbers. That's because in many cases there is no single true number. Accounting rules and principles provide for a variety of assumptions, choice of methods, and estimates. The auditor will usually issue a clean opinion by stating the statements are a "fair" representation in all material respects in accordance with whatever principles are to be applied, like GAAP. Only fair, and only in accordance with certain principles, which may themselves provide for a degree of subjective interpretation. If anything is represented as "true" (which it sometimes is), it can only be within a framework that includes continuing uncertainty and estimates of measurement. The principles themselves are of great importance, and GAAP, while not without its own curiosities, is generally considered to be more "rules-based" in an attempt in part to provide less room for manipulation. Once it seemed there would be more uniform reporting standards worldwide, and while there has been substantial convergence, the objective of full convergence appears to have been abandoned.

That is to say, just because the auditor is the same doesn't mean the numbers are comparable. The standards are what matter. And further, as the largest firms are somewhat loosely structured, what holds them together looks to me to be more like bakery string than glue.
Ok, more or less correct according to the principles that are applied. Better?

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by nedsaid » Wed Jan 16, 2019 9:46 am

dialecticalinvestor wrote:
Tue Jan 15, 2019 4:49 pm
nedsaid wrote:
Mon Jan 14, 2019 11:34 am

The increasing irrelevance of book value might be one reason that P/E ratios have been climbing. The market realizes the limitations of accounting and has adjusted for it. I have wondered if earnings have been accurately stated as they don't account for the rising value of intangible assets.
Hmm... Well, book value has no direct relationship with P/E, and investors paying less mind to it would not cause P/E ratios to increase. And related to what I mentioned above, earnings are never accurately stated--only fairly stated. Also, most assets are not valued at fair market value because FMV can be difficult or impossible to determine and could result in drastic manipulation of numbers. Heck, even consider a retailer whose inventory has increased in value. Would it count this as income? Of course not.
You are describing the limitations of accounting. How do you value intangible assets? There has to be judgment involved. Market value of the more tangible assets can be volatile. If you included fluctuations of the value of tangible and intangible assets in earnings, it would make earnings numbers very volatile and not really based upon operations of the actual business. These issues have caused a lot of study and discussion about certain aspects of accounting theory, not easily resolved issues.
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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by Dialectical Investor » Wed Jan 16, 2019 3:03 pm

ignition wrote:
Wed Jan 16, 2019 5:05 am
dialecticalinvestor wrote:
Tue Jan 15, 2019 4:33 pm
ignition wrote:
Sun Jan 13, 2019 7:48 am

The four biggest firms that audit the financial statements of companies. If they do their job correctly, numbers should be more or less correct.
The overall numbers are never really known to be "correct" in the sense that they are representations of the true numbers. That's because in many cases there is no single true number. Accounting rules and principles provide for a variety of assumptions, choice of methods, and estimates. The auditor will usually issue a clean opinion by stating the statements are a "fair" representation in all material respects in accordance with whatever principles are to be applied, like GAAP. Only fair, and only in accordance with certain principles, which may themselves provide for a degree of subjective interpretation. If anything is represented as "true" (which it sometimes is), it can only be within a framework that includes continuing uncertainty and estimates of measurement. The principles themselves are of great importance, and GAAP, while not without its own curiosities, is generally considered to be more "rules-based" in an attempt in part to provide less room for manipulation. Once it seemed there would be more uniform reporting standards worldwide, and while there has been substantial convergence, the objective of full convergence appears to have been abandoned.

That is to say, just because the auditor is the same doesn't mean the numbers are comparable. The standards are what matter. And further, as the largest firms are somewhat loosely structured, what holds them together looks to me to be more like bakery string than glue.
Ok, more or less correct according to the principles that are applied. Better?
Correct methods, maybe, but not correct numbers. Principles may allow for a variety of methods--many possible "correct" numbers, and not completely correct, just free from material incorrectness, and not absolute assurance the numbers are free from such, only reasonably so, etc. etc. Auditing the methods and their disclosure should enable investors to judge the numbers for themselves and the implications of the methods, taking into consideration how methods differ from one country to another. But there's so many layers to unpack that I question the extent to which the market doesn't known what it doesn't know.

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Re: Emerging markets cannot be fairly valued and investors are better off elsewhere: Change my mind :)

Post by Dialectical Investor » Wed Jan 16, 2019 3:17 pm

nedsaid wrote:
Wed Jan 16, 2019 9:46 am
dialecticalinvestor wrote:
Tue Jan 15, 2019 4:49 pm
nedsaid wrote:
Mon Jan 14, 2019 11:34 am

The increasing irrelevance of book value might be one reason that P/E ratios have been climbing. The market realizes the limitations of accounting and has adjusted for it. I have wondered if earnings have been accurately stated as they don't account for the rising value of intangible assets.
Hmm... Well, book value has no direct relationship with P/E, and investors paying less mind to it would not cause P/E ratios to increase. And related to what I mentioned above, earnings are never accurately stated--only fairly stated. Also, most assets are not valued at fair market value because FMV can be difficult or impossible to determine and could result in drastic manipulation of numbers. Heck, even consider a retailer whose inventory has increased in value. Would it count this as income? Of course not.
You are describing the limitations of accounting. How do you value intangible assets? There has to be judgment involved. Market value of the more tangible assets can be volatile. If you included fluctuations of the value of tangible and intangible assets in earnings, it would make earnings numbers very volatile and not really based upon operations of the actual business. These issues have caused a lot of study and discussion about certain aspects of accounting theory, not easily resolved issues.
Perhaps not so much an accounting limitation as much as a valuation problem that certain accounting principles wisely avoid. I doubt earnings would be more volatile though. I think it is and would be another avenue for companies to smooth earnings, since valuation is highly subjective. There are non-principle self-interested motivations for companies to err on the side of conservatism: auditors don't want the risk, companies don't want to re-state, etc. But the flexibility of certain international standards troubles some people in this regard. I doubt the sufficiency of quality data at this point to examine the issue (comparing consequence of accounting principles and reporting standards) more objectively though, since standards and industries have been in flux over the past years and decades.

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