Sometimes it takes a slap in the face to make you realise a long-cherished belief is long dead.
Russia’s power move in Ukraine is the slap and the so-called Brics (Brazil, Russia, India and China) as an investment concept is the (now very much dead) belief.
That’s not because India will bomb Sri Lanka or Brazil impose a ‘co-prosperity zone’ on Surinam. It is rather because Russia’s move on Crimea demonstrates that history is not over, that globalisation is not inevitable, and that you as an investor can very easily get worked over by this process.
You might, in other words, be better off keeping your money at home, or at the very least imposing a much greater discount on how cheap emerging market assets must get before they are worth the risks.
So far the damage in market terms is radiating out from the point of conflict, or aggression, with Russian assets hit very badly. That makes sense, but to simply focus on this story as being about the particular geopolitics of Russia and the rest is to miss the larger point: geopolitics, largely a one-way bet for investors since the Cold War, don’t always have to be a supporting factor.
Bric enthusiasm was founded on two related concepts, both now very much in doubt.
The first was that the fundamentals within emerging markets were superior, for a set of reasons that almost smacked of historical inevitability. Not only were these countries, the argument went, lower in debt, but they represented the demographic future, with growing populations, better prospective economic growth and a massively expanding middle-class.
Clearly demographics, never a Russian strong suit, are no longer a great reason to buy China, which is close to reaching its own demographic tipping point a good deal earlier than we would have bet 10 years ago. And while growing wealth and a growing middle-class are a good thing, evidence this produces superior returns for investors is extremely thin on the ground.
The second concept, and here we enter into the truly delusional, was the Davos mindset that globalisation will continue its steady march and will always favour capital.
Investment in Brics, and in emerging markets generally, was supported by a world view which took for granted the idea that because ‘everybody’ wants to maximise development and growth, ‘everybody’ will not just give investors a fair shake but play, more or less, by the international rules.
A world in which countries like Russia are doing things like they are in Crimea is one in which capital which ventures abroad is going to be more cautious. More cautious capital requires higher returns to entice it.
Russia particularly is going to get hit by this, but there is a good chance it applies generally to emerging markets.
Russia’s aggression in Crimea doesn’t just undermine this by itself, it does so through the very timid response it has thus far generated internationally. German interests seem inclined to block sanctions based on energy, while British ones seem wary of anything, such as seizure of the Russian elite’s assets abroad, which might threaten London’s banking franchise.
Now, to be clear, Russia is a very particular kind of bad bet, and its markets, were priced that way.
We’ve seen other easy assumptions about how emerging markets and global investment ‘works’ being challenged recently. Take the Chinese yuan, the slow and steady appreciation of which, under the watchful eye of the People’s Bank of China, has been the closest thing to a sure bet in global markets in recent years.
Two weeks ago, unexpectedly, the yuan suddenly started to fall in value, dealing some nasty blows to speculators who’ve come to rely on its steady appreciation. There are reasons to believe that China simply wants to introduce two-way risk into the market, and that it is simply trying to create unfriendly conditions for those who try to hitch a free ride on the yuan’s usual slow rise.
That said, China also faces substantial difficulties in its needed transition towards a more consumption-based economy, something it needs to do while deleveraging in what may be a painful way for many influential constituencies.
Letting the yuan weaken makes a lot of that a good bit easier economically. It would also be very dangerous internationally, inviting a round of beggar-thy-trade-partner devaluations.
Needless to say, it would also not be good for foreign capital flows, just like Russia’s Ukraine gambit.
The bottom-line, and Russia only underscores this: globalisation is reversible.