Strolling Down BRIC Lane

By PALASH R. GHOSH
A Dow Jones Newswires Column

NEW YORK -- The concept of BRIC may be becoming outdated, but it's significance as a proxy for investing in developing markets has never been greater, even with rising inflation.

Believed to have been coined earlier in the decade by Jim O'Neill, a global economist at Goldman Sachs, "BRIC" comprises four nations -- Brazil, Russia, India and China -- that are so different from each other that it precludes any discussion of them as a viable unit. But packaged as a single monolith, the grouping is growing in size and importance by the minute.

According to Howard Silverblatt, senior index analyst at Standard & Poor's, BRIC now accounts for 56% of all emerging markets by market-cap and a whopping 80% of all emerging market GDP, making it a virtual proxy for investing in developing economies. Excluding the U.S., BRIC now accounts for an impressive 9.7% of the total global market cap.

These weightings are expected to ramp up as GDP growth among the BRICs remains robust. The World Bank said China's real GDP is expected to climb by 9.4% this year, following a frenetic 11.9% pace in 2007. The slowest-growing BRIC nation, Brazil, expects to expand by 4.6% this year. By comparison, the U.S., Eurozone and Japan are all facing anemic growth well under 2%.

In addition, the BRIC nations are somewhat immune to the credit meltdown in the U.S. and Europe, while remaining vulnerable to potentially higher U.S. interest rates.

After that, things get hazy.

For one thing, equity performance figures diverge greatly among the BRIC members. Although BRIC as a whole (as measured by MSCI) has lost about 7.8% year-to-date through June 9, Brazil has gained 15.3%, Russia edged down 0.2%, while India has dropped 33.9% and China has declined 18.2% (all in U.S. dollars).

Of course, one should remember that Brazil and Russia are oil exporters, while China and India import crude and depend heavily on the strength of the U.S. economy.

One key concern is inflation.

Tom Sowanick, chief investment officer at Clearbrook Financial in Princeton, N.J., said while inflation is rising in three of the four BRIC nations, that's a global trend given skyrocketing fuel and food prices.

Indeed, the inflation picture in BRIC may not be all that bad.

India's annual inflation rate has risen steadily for the past four years. Now at about 8.0%, it is still below its 13-year high of 9.5%.

Inflation in China is clearly on the rise -- now above 8%, a 12-year high -- but still manageable given the country's phenomenal growth rate.

Russia's inflation figure of 15.1% sounds scary, until one recalls that it reached nearly 25% earlier in the decade.

Brazil features the most comforting inflation picture in BRIC -- currently at about 5.0% -- a far cry from the 16% to 17% annual rate from 2003.

An ironic facet of global inflation is that it actually reflects the robust nature of these emerging markets. Indeed, China and India's seemingly inexorable demand for commodities has largely caused these soaring prices.

Global inflation, in fact, might have been unavoidable anyway -- a price to be paid for allowing the emerging markets to advance.

"Inflationary trends are up globally, but as an investor, we can take some comfort in that fact that many central banks in the emerging markets are seeking to arrest these pressures and uphold strong currencies," said Sowanick.

"Emerging markets nations are becoming more proactive in their fiscal policies, adding more economic stability."

For example, monetary tightening in 2007 by the Reserve Bank of India led to slightly diminished domestic demand, leading to a cut in GDP growth. But India's growth remains handsome; the World Bank expects a 7% gain in 2008, following last year's torrid 8.7% pace, reflecting pretty strong consumption. Inflation will hurt India, of course, but the impact will likely be muted as long as demand is high and people are consuming at a brisk pace.

How should U.S. stock pickers approach the formidable BRIC wall? Investors probably should examine each BRIC nation separately to determine its suitability.

Keith Springer, president of Capital Financial Advisory Services in Sacramento, Calif., is particularly bullish on Brazil.

"Brazil boasts relatively modest inflation and they are now a creditor nation, with a growing middle class," he said. "They have tremendous reserves in commodities and natural resources for which China is their biggest consumer."

Sowanick also likes Brazil. "Since their debt is now investment-grade, their cost of financing is low," he said. And all of this asset-gathering has permitted Brazil to reach a heretofore unimaginable milestone -- they are planning a sovereign wealth fund to make foreign investments, quite remarkable for a country that not too long ago faced bankruptcy.

Springer is somewhat less enthusiastic about India and China, though he finds them attractive as long-term themes. "They've actually suffered from too much good news as investors got accustomed to 10% annual growth rates," he said. "That's pretty hard to sustain."

Russia, with its endemic corruption, lack of transparency and high political instability, remains the least attractive BRIC component.

Still, it's important to remember that these are still "emerging" markets and they remain plagued by high volatility and relative illiquidity.

Conditions are bound to improve, however. Within a generation, perhaps less, Brazil, Russia, India and China may replace Japan, Germany and the U.K. as our powerhouse peers and rivals.

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(Palash R. Ghosh has been writing about U.S. and international equity and bond markets for the past 16 years.)



Keith Springer is Registered Investment Advisor and President of Capital Financial Advisory Services, providing Wealth Management, advanced Retirement Planning and Mortgage Consulting Services. For more information, please contact Keith Springer at 916-925-8900 or Keith@KeithSpringer.com