Home > Economics > Investing in Emerging Markets: The Case of Malaysia – Potential and Pitfalls

Investing in Emerging Markets: The Case of Malaysia – Potential and Pitfalls

The problem…

I was back in Malaysia for most of February. Up until January 2011, with Western economies recovering from the crash, a lot of funds flowed into Emerging Markets. From a low of 832.44 in October 2008, the Kuala Lumpur Composite Index (KLCI) has almost doubled and is currently trading at just over 1500. When I was in Kuala Lumpur, I witnessed firsthand the amount of inflation that has taken place over the past three years. I have been told that real inflation is way above what is reported by the government. Complaints range from ‘the government is fudging the figures’ to ‘the CPI basket of goods is not an adequate reflection of our spending habits’. This reminds me of a classroom discussion I recently had at the London Business School – the running joke is that governments of emerging markets (for example Malaysia and Vietnam) have specific economic growth plans and their figures have to be retro adjusted to ‘fit in’ with the plan.

I also noticed a lot of my relatives have been snapping up off-plan properties. Their line of reasoning is to ‘flip it’ on completion with the hope of making a decent return. A lot of them
have a teaser rate mortgage. The caveat here is that prices have to continue rising and we know from recent experience how dangerous that can be. Granted most of my relatives have holding power. This raises a lot of questions: Has income increased in real terms, keeping up with inflation? Is there an asset bubble building up? Some would argue that the US monetary policy is fuelling asset bubbles in emerging markets. With traders talking about QE3, the Fed is already on a slippery slope from which, since late 2010, there is no return.  This also reminds me of the NINJA (no income, no job, and no asset) loans that contributed to the US subprime crisis. (obviously even if there is a bubble, we are still in the initial stages here.)

Having discussed these issues with a Malaysian economist, here’s the takeaway:

  • There were lots of one-off price increases in late 2008 because of the spike in oil. A lot of the price hikes were in food.
  • On property, there are solid fundamental grounds for price increases, which is why I’m hesitant to call a bubble except in very select areas.
  • Rapid urbanisation – immigration from rural to urban areas. The urbanisation rate went up 5% in the last decade, and is expected to rise another 5% by 2020. If you’re buying in the metropolitan areas or inner suburbs, then there’s a degree of confidence there.
  • Demographics – demand is going to increase in the next couple of decades. Malaysia’s population age profile is pyramidal, not cylindrical as in most developed countries. I’m expecting work force growth in excess of 2.5% in the next decade, compared to overall population growth of less than 1.5%, which will obviously increase housing demand over the next 20-30 years.
  • Supply response – there isn’t much. New property launches are running at half the pace of the first half of the noughties.
  • So you have a combination of increasing population pressure in urban areas and at the same time supply is getting tighter. Developers are responding to limited land area and higher prices in KL and Penang by essentially going up market, high margin, high price developments rather than large-scale township developments. There’s also some consolidation going on among property stocks because of excess capacity, which would tend to confirm this hypothesis.
  • We’ve had mortgage securitisation for over three decades now, but the market for CDS and structured products are nascent. I don’t think there’s a case for worrying about systemic risk … yet. That doesn’t mean flipping is worthwhile though. The risk is concentrated in the upper section of the market, but volume here is pretty thin as prices are way out of reach of ordinary Malaysians. The odds of getting caught out are pretty high. Long-term investment though should be pretty good.
  • No, incomes haven’t kept pace with inflation, even if you accept the government figures. To be more precise, income growth has kept pace with inflation OR productivity, but not both. By my calculations, we should have seen wage growth in excess of 5% over the last decade, but it’s actually about half of that.

The KLCI appears expensive right now – the best-case scenario is consolidation until the end of the year, to let the fundamentals catch up with valuations. This could be one reason why foreign money has mainly been parked in fixed income.

*Hishamh contributed to this post. Hishamh is an applied and practicing economist in the Malaysian financial sector.

 

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