A GOOD TIME OR BAD TIME TO INVEST?

The key to successful investment is not market-timing, but time in the market. By this we mean that once you have identified a plausible investment opportunity, it is much more likely to be successful if you hold it for a sensible period of time, at least 10 years for emerging markets. In contrast, trying to market-time, by acknowledgment of the worlds best investors, is a mugs game - it is frustrating, error strewn and expensive, and random successes lead to over-confidence and, often, dramatic failures.

There is one broad exception to this, and that is when a range of warning signs are flashing red, perhaps highlighting the risk that a dangerous investment bubble has inflated, and at which point you certainly shouldn’t invest. Are there any such signs now?

Firstly we must be absolutely clear that where we are now with emerging markets is nothing like the technology bubble of the late 1990’s, where (greedy?) investors massively over-committed to companies that in many cases had no earnings and paid no dividends.

There will be bumps in the road, and 20-30% falls will be commonplace, with most markets about 20% from their peaks as we write.

Emerging markets have in the past been regarded as fundamentally risky, characterised by high inflation, volatile growth, periodic exchange rate and debt crises. But they have moved on, and so should the approach of investors.

For example, the 1997/8 crisis illustrated that if they were reliant on external finance for growth, they were vulnerable if that finance dried up. The lesson was learnt, and emerging markets have since seen a huge increase in reserves. Now instead of being completely at the mercy of the global economy, they can apply their own stabilisers. They are also increasingly trading with each other, and will be much less reliant on US trade as time goes on. There have been widespread reforms, and many of these economies are now structurally stronger than most major developed economies e.g. levels of Government and personal debt.

Even so, any uptrend in stock markets that has lasted for 3-4 years is, in the experience of most investment specialists, getting a bit mature, and this is what has occurred in all stock markets since the low of 2003. Yet this uptrend has been punctuated by healthy corrections, such 25% falls in May/June 2006, and falls in excess of 20% right now. It is equally encouraging that such lost ground has tended to be quickly regained.

As the potential is becoming better understood in a world where so many other asset classes already look expensive, or lack growth potential, or both, emerging markets are clearly being bought on weakness. This happened in the Summer of 2007, as the credit crunch dominated the media, and emerging markets hesitated, no more than that, before going much higher.

There are a number of ways to assess if a particular stock market looks good, bad, or reasonable value, for example:

1. PE (price earnings) ratios are one way to compare value across stock markets. After recent price falls, the price earnings (PE) ratio based on expected earnings are little over 12, which is far from expensive. China and India are undoubtedly a bit more expensive than this average, but fund managers are now seeing far better value, with some shares down 50% from their highs.

In the past, stock markets have tended to overreact, both up and down, and very significant peaks are much more likely when emerging markets PE ratios are far more expensive than developed economies. This is not the case right now.

2. How far the stock market is running above its long term trend, which we define as the 200 day moving average of the stock market index, is another useful indicator. Following recent corrections, this is not a major concern. For example, when the emerging markets index is 30% or more above the long term trend it has invariably been a great time to take profits, with prices either falling to long term support or, at most, 10% below this level. At the moment the index is 4% above the long term trend, highlighting some downside potential (up to 15%), but nothing too dramatic (at least not based on this analysis of the last 5 years).

3. A third indicator is the behaviour of the investing public, and in particular mass public participation. We saw this vividly in 1999/2000, where much of the investing public became obsessed with technology investments, and this coupled with other indicators (daft valuations and talk of a “new paradigm”), made it absolutely clear at the time (not with the benefit of hindsight) that we were in bubble territory.

Though UK investors have not been huge investors (and are probably under-weight) vast sums from around the rest of the globe have flooded into India and China over the last couple of years. Some event triggering even partial outflows would be a worry, and cause a sharper correction than seen for some time.

4. US recession. If there is a US economic slowdown in 2008, recession or otherwise, this will impact on the global economy to some extent, of that we should be in no doubt. So greater emphasis should be given to countries that will be less exposed. For example, the more populous countries, less reliant on exports, and with robust domestic demand, will tend to be less affected by problems in the US e.g. India.

You should be in no doubt – there will be periods of instability in the future. The move by China and India into the global mainstream, the modernisation of their economies, the switch from old ways of thinking to new, will only occur over many years, and will not be a smooth ride, no more than was the emergence of the United States in the 19th century.

It is pointless trying to second-guess what the precise triggers for any such instability might be – what is more important is that you understand that the risks are real, that your total portfolio continues to be diversified and match your attitude to risk, and that you have a continuing source of input and advice such as ourselves.

The potential is nonetheless huge. We believe that the key will be your time in the market, not your trying to time the market. If you would rather take a lower risk way to build your emerging market exposure, monthly contributions are a superb way of doing so.

But it's really about you, not the market

Whether now is or is not a good time to invest, just focussing on the stock markets current level and relative value, is arguably not the point, or at least not the priority. The priority must be whether you are comfortable with high risk investments, and the potential downside. High risk technology funds fell 80% from their peak. We're not suggesting that this is about to happen - but with higher risk investments this is what might happen at some point, and you must understand that. This is discussed in more detail in the "Risk" section, see left hand menu. In addition you must have a diversified portfolio, so you can limit downside risk in exceptionally poor periods, which means that you should limit the amount in emerging markets - see "How much should you invest...", left hand menu. If in doubt you should opt for our bespoke advice service - top menu, "About you".

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