Editor’s Note: Gosh darn it, Google!
(Anyone besides me think they’re a little creepy? But I digress… )
It has come to my attention that many of you did not get the inaugural edition of Liberty Through Wealth delivered to your inboxes on Monday.
For that, I’m very sorry… and very mad at your email delivery service.
You see, sometimes when an email comes from a new name or address, your email service provider thinks it’s junk and doesn’t let it through its systems.
But I can assure you, Monday’s article from Chief Investment Strategist Alexander Green was anything but junk!
If you happened to be one of those unfortunate few who missed the article, please take a moment to check it out here. Alex is eager to welcome you to discovering the shortest route to financial independence.
Donna DiVenuto-Ball, Managing Editor
In the summer of 1998, I was managing four emerging market portfolios in London.
Emerging markets were red-hot.
In the prior 18 months, I had traveled to Turkey, Russia, Ukraine and even Kazakhstan by private plane on investor trips.
I even once took a helicopter to Monte Carlo to pitch emerging market stocks to wealthy investors.
Then, on August 17, 1998, the bottom dropped out.
The Russian government defaulted on its bonds, catching investors off guard.
Our portfolios tumbled more than 30% within weeks.
George Soros reportedly lost more than $2 billion in Russia alone.
Ever since that experience, I’ve stuck to this fundamental rule of investing: Look down before you look up.
In other words…
I’m always looking for the canary in the coal mine that could signal another looming financial crisis.
So how is my experience of the Russian crash of 1998 relevant today?
After all, U.S. stock markets are trading near record highs.
The recent tax cuts have boosted U.S. companies’ bottom lines.
And, as I’ve written before, the absence of market euphoria among investors does not suggest a market top (in fact, quite the opposite).
However, just last week I came across some worrying trends.
Over the past six weeks, major emerging market currencies like the Turkish lira, the Mexican peso and the Brazilian real have all sold off sharply. (Ditto for each of their stock markets.)
And worryingly, this rout was happening against a backdrop of strong commodity prices and robust global growth.
That disconnect bothers me.
Scarred by the experience of 1998, I decided to delve deeper.
It turns out that emerging market economies have been on a borrowing binge over the past decade.
Total dollar-denominated debt outside the U.S. reached $10.7 trillion in the first quarter of 2017. And about a third of this debt is owed by the nonfinancial sectors of emerging economies.
Furthermore, a record $1.6 trillion of debt issued by governments, financial firms and other companies in all currencies matures in 2018.
That figure will grow to $1.7 trillion by 2019.
Concentrated in emerging markets, these staggering amounts will either need to be paid down or refinanced.
And here’s where the threat of another financial crisis comes in…
Imagine you’re an emerging market country. You borrow money in U.S. dollars because interest rates are low.
Meanwhile, you make money to service these bets in local currency.
Now assume the value of your currency drops 20% against that of the U.S. dollar.
That means you must convert 20% more of your local currency to pay back your U.S. dollar debts.
Put another way, you are 20% “poorer.”
So why are Turkey, Mexico and Brazil’s troubles relevant to you?
As I noted, the currencies of major emerging market economies have already tumbled substantially.
Meanwhile, the Fed’s interest rate hike yesterday turned the screws tighter on emerging markets by boosting the dollar and increasing the cost of dollar-denominated debt.
Investors are already voting with their feet by pulling more than $10 billion out of emerging market mutual funds and exchange-traded funds (ETFs) over the past six weeks.
The Turkey and Brazil ETFs have tumbled by more than 25% in the past three months.
So far, these sharp sell-offs have had little impact on major markets.
But it takes only a single trigger event to launch a rout in all emerging market assets.
And this rout could spread from distant corners of the world… to the U.S. and the developed world.
Moreover, my experience in 1998 suggests this could happen much more quickly than anyone expects.
Is the recent sell-off in emerging market assets the canary in the coal mine signaling the next financial crisis?
I’m not sure.
But here’s what I do know…
Emerging market currencies, bonds and stocks have entered a downtrend – even as the U.S. stock market approaches record highs.
Emerging market economies face formidable headwinds from rising U.S. interest rates, a stronger dollar and high rates of debt.
Market sentiment can shift very quickly. And investors tend to throw out the baby with the bathwater.
I am by no means suggesting that you should run and duck for cover.
But you should be aware that what happens in far-flung lands could have an impact on your portfolio.
In 1998, I learned the rule: Look down before you look up.
I recommend you do the same.