Emerging Markets Continue to Offer Opportunity Despite Possible U.S. Recession

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By Jason Simpkins
Associate Editor

A narrowing trade surplus and declining money-supply growth in China has some analysts worried about the prospects of global growth, particularly as the U.S. economy flirts with the possibility of recession. But the red-hot Asian markets may prove more resilient than many think.

China raised its interest rates six times in the past year in an effort to tame the worst inflation the country has seen in a decade. The government in Beijing has also restricted credit, and frozen the price of some products such as gasoline. And after months of reform, China is finally starting to see some results.

December's trade surplus shrank to $22.7 billion from $26.3 billion in November, and the broadest measure of money supply rose by the least amount in seven months. That raised the eyebrows of analysts who think an economic slowdown, or worse, a recession in the United States could significantly damage Chinese exports and further hinder the global economy.

"As foreign demand deteriorates, China may overdo its tightening of policy and cause a sharp economic slowdown," Frank Gong, chief China economist at JP Morgan Chase & Co. (JPM), told Bloomberg News. "If the central bank raised interest rates too much, it would damp domestic demand and increase the danger of economic downturn."

Yesterday [Monday], Goldman Sachs Inc. (GS) lowered its Asian growth forecast to 8.3% from the previously projected 8.6%.

There is no doubt that a U.S. recession would have a negative impact on Chinese exports and thereby the Chinese economy as a whole. But the United State's role in the global economy, while still substantial, is shrinking.

America accounts for about 19% of emerging market exports, but its topped by Europe, which takes in 28% of the goods being shipped out of those countries. In 2007, the 27-nation European Union, not the United States, was China's No. 1 trade partner.

Trade with the EU rose 27% year-over-year to $356.15 billion. The United States came in second with bilateral trade volume standing at $302.08 billion, up 15% compared with 2006, according to the customs administration.

And while the U.S. dollar remains weak, making it harder for the United States to import goods, the euro is hitting all-time highs.

China's trade surplus for the first 10 months of the year expanded by 59% to $212.4 billion, easily eclipsing the full-year record of $177.5 billion set in 2006. For all of 2007, however, China's total exports rose 25.7% to $1.218 trillion.

Even as demand slackens in the United States, domestic demand in emerging markets, particularly China, continues to boom. In fact, many fund managers see weakness in the U.S. economy as yet another reason to invest in sectors that benefit from Asia's dynamic domestic growth.

"The one pocket of growth for now at least is Asian consumers, particularly in China and India," Anthony Muh, head of Asia Pacific for AT Asset Management told the China Post.

"We've been pulling back on cyclicals, on the export sector, and adding more to domestic consumption and raising a little bit of cash to keep our powder dry to take advantage of some of the pullbacks," he said.

That's not such a bad idea, either. The Shanghai Composite Index climbed 96.7% on the year, making it the world's best performing major bourse for 2007. A pullback induced by a recession in the United States and tighter economic restrictions could take some of the heat out of overpriced stocks and open the door for bargain hunting.

Sectors such as retail, telecommunications, real estate, construction and infrastructure could present significant opportunities as domestic demand for their services remain high, declining in exports. Even if China's rate of growth drops significantly from last year's 11.5%, a growth rate higher than 8% is still exceptional.

George Hoguet, strategist at State Street Global Advisors doesn't even see growth dropping that dramatically.

"[China's economy] will slow down less than half a percentage point for every point of growth the U.S. loses," Hoguet recently told CNNMoney.

"Emerging markets account for 30% of the world's economy," Hoguet added. "As the U.S. slows, investors will be looking for earnings growth in other parts of the world. Emerging markets will be increasingly driven by earnings growth over the next 12 months."

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