China is not the only emerging market for equity. Unfortunately, you wouldn't know it from listening to the financial media. Media attention is drawn to a slowdown in China's economy almost to the exclusion of attention on other developing markets.
Recently, hedge fund titan Jim Chanos has become the center of attention in the China story. According to Mr. Chanos, head of Kynikos Associates, the macroeconomic picture of China makes its stocks optimal for short-selling.
Mr. Chanos warned investors not to trust the government data coming from the People's Republic of China or from its corporations. During an interview on CNBC's Squawk Box, he stated that China's H-Shares market seemed like it was designed to pull Western money into the country without ever letting it go back out. He also stated that it is difficult for a Western investor to profit from firms which often do not earn returns in excess of their costs of capital.
Finding Better Alternatives to China
How can we compare the risks and rewards of investing in Chinese stocks and other global equities?
To examine the investment prospects of different foreign markets, different markets were screened for discounts to Purchasing Power Parity (PPP) of their currencies versus the dollar. To assess the risk of investing in nations with the cheapest currencies, Investment Freedom and Property Right scores were collected from The Heritage Foundation's 2011 Index of Economic Freedom. Each metric helps weigh risk or value:
The Investment Freedom score assesses restrictions on foreign and domestic investment, legal recourse available to firms and investors, as well as how burdensome regulations are for investors. Higher scores indicate higher freedom, and 100 is the highest score.
The Property Right score assesses how well the government protects private property, how well the government punishes those who unlawfully confiscate private property and corruption in the court system. Higher scores indicate greater property rights, and 100 is the highest score.
Purchasing Power Parity (abbreviated PPP) is a relative price level that would allow a customer to buy the same amount of a good domestically as they could by exchanging domestic currency for foreign currency and then buying that good in a foreign country. Simply put, if PPP holds I would be able to buy the same amount of gas in the US as I could in Mexico, either by paying X dollars in the US or exchanging X dollars for Y pesos and then buying the gas in Mexico. Since currencies deviate from PPP, investors could convert dollars into a currency with a discount relative valuation and buy more assets in the foreign market than they could with dollars in the domestic market.
A table of discount currencies and risk scores reveals several other Asian nations which are better value prospects than China:
Relative Valuation (PPP)
Fortunately, here are many attractively-priced funds which invest in the securities of Malaysia, Taiwan, Thailand, and Indonesia:
Aberdeen Indonesia Fund
iShares MSCI Malaysia
iShares MSCI Philippines
iShares MSCI Taiwan
iShares MSCI Thailand
Market Vectors Indonesia
First Trust Taiwan AlphaDEX
*NAV discounts are listed as negative premiums.
**P/E and P/B ratios are forward projections calculated by Morningstar.com.
Which of these are the best mutual funds to buy now (based on valuation) on this list?
Two funds with holdings in Thailand are particularly attractive. The Thai Fund trades at a 13.23% discount to NAV (net asset value) and owns holdings with an acceptable aggregate 13.86 price-to-earnings ratio. Investing in Thailand is similarly cheap with the iShares MSCI Thailand ETF, which has a lower price-to-earnings multiple of 11.31 but no substantial NAV discount.
In addition, investment in Taiwan is attractive through First Trust Taiwan, an ETF whose holdings have an average 12.89 P/E ratio.
Low valuations and fund discounts add to the attractive relative currency valuations, making these funds attractive value investment candidates.
These funds are opportunities to gain from markets with better property rights, higher investor freedom, or a cheaper currency than China.
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