While more developed countries have been faced with huge financial problems and equities have advanced just under 50% this year, markets in developing countries such as China and India are trading at 52-week highs. Furthermore, emerging markets account for about 50% of world GDP. It seems likely that they will be the source of global growth over the next few years, seeing that developed countries are spending resources in reducing debt and rebuilding banking systems.
It seems that investing huge amounts in developing markets will yield good returns considering the present situation. But is that so? Investors should be careful when it comes to investing in developing countries because it has been proven historically that emerging markets give up nearly 100% of their gains. For example, a dollar invested in May 2005 became three dollars in 2007, just to fall back down to a dollar in 2008. This happens because investors rush into emerging markets increasing the cash inflow; however, once the cash flow is reversed, one should watch out.
So what should you do if you wish to invest? One alternative is to avoid emerging-market stocks and buy bonds instead. Also, Jerome Booth, head of research at Ashmore Investment Management advices that "you should invest in 64 countries, not four" in order to avoid bubbles.
It is important to remember what Ronald Florance, director of asset allocation and strategy at Wells Fargo, said in an interview with BusinessWeek: "Emerging markets are like cayenne pepper - a little bit in the soup is great. Too much is a disaster."