Oil reached its peak in the United States at over $140 a barrel in July of 2008.  After the “Great Recession”, oil rose but did not get close to its peak of 2008.  Conversely, as oil is priced globally in dollars and because of the strength of the US dollar, other countries saw oil peak in the last year.  Below you will find two charts showing the price of oil in Indian Rupees and Brazilian Real.  As you can see, the price of oil for these two countries a year ago was higher than it was in 2008!

High oil prices have been a drag on emerging markets (and their stock markets) for the past three to four years.  It also is why oil prices recently dropped.   Why did this happen?  Because the price of oil was so high for these countries, demand fell.  At the same time, supply increased as there was more drilling in the US.  When analyzing oil prices, many people look at just the supply side and not the demand side.   Demand is just as important as supply.  If you had lunch on the Ohio River in the summer of 2008, you would have noticed how few boats were on the river.  Why?  Gas was too expensive to fill the tanks and boating suddenly became an expensive hobby.

Emerging markets have had a headwind for the past few years while US companies have had a major tailwind.  The winds are changing as it will be very hard for US multinational companies to keep profit margins at these historically high levels because of the rising value of the US dollar.  On the other hand, emerging market companies will now be able to sell goods cheaper in the US and will benefit from falling energy prices.   On top of that, many of these companies’ stock prices are half the price of US companies, have higher yields, younger work forces and are located in countries with low levels of debt.

What does this mean for portfolios?

We like taking expensive dollars and buying cheap assets in emerging markets.  Today’s situation is the complete opposite of 2009 when investors were taking cheap dollars and buying expensive assets in emerging markets.  Investors did this out of a fear of a collapsing US economy.  When investing in emerging markets, one has to be careful as  not all emerging markets are the same.  We are investing in actively managed funds that currently have no exposure in Russia or in Chinese banks because we believe those areas have significant price risk.   Many exchange traded funds that invest in the emerging markets have significant exposure to these risky areas.  We do not like Russia because of its geopolitical risk.  We do not like Chinese banks because of how insolvent they are – the book Red Capitalism explains in great detail how insolvent Chinese banks truly are.

Sincerely,

Your THOR Team

THOR Investment Management, Inc. is a registered Investment Adviser with its principal place of business in the State of Ohio.  The commentary contained in this market update is limited to the dissemination of general information pertaining to THOR’s wealth management services. 

Source of charts: Bloomberg