Emerging Markets: Beyond The Big Four

Egypt, Mexico, Poland, South Africa, South Korea, and Turkey are investor-friendly and boast strong growth, too

The biggest, fastest-growing economies of the Third World are Brazil, Russia, India, and China. But while the Big Four, also known as BRICs, have attracted the most investor attention in recent years, there are also opportunities in less prominent but more promising emerging markets such as Egypt, Mexico, Poland, South Africa, South Korea, and Turkey. They may not have the buzz of billion-plus population markets, but their growth is impressive -- and their stocks, in many cases, can offer superior value.

Some pros are wary of India's frothy equity market and mainland China's disclosure-poor companies. Brazil's fragile political situation and Moscow's penchant for interfering in business are also growing concerns. In other words, even within emerging markets it is important to diversify beyond a few core holdings. "The whole notion that you should invest only in BRICs is silly," says Mark Madden, portfolio manager of OppenheimerFunds' Developing Markets Fund.

The six leading non-BRICs are notable for their strong growth profiles, fast-track reform agendas, and investor-friendly climates. Unlike the largely export-dependent BRICs, most of these countries are prospering chiefly on domestic demand from surging consumer spending.

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Bric or non-bric, investing in emerging markets poses unique challenges. The lack of liquidity in these markets can be brutal to shareholders since investors in a rush to sell can send prices tumbling. What's more, relatively few shares based in the developing world are listed in the U.S. or traded as American depositary receipts (ADRs). That can make it hard to buy dollar-priced stocks, especially those in line with Securities & Exchange Commission reporting guidelines. An alternative: emerging-market mutual or exchange-traded funds (ETFs), some of which target specific regions or countries. Check out the iShares MSCI Emerging Markets Index Fund (EEM ) or the Vanguard Emerging Markets VIPERs ETF (VWO ).

For direct exposure south of the border, choices include iShares S&P Latin America 40 Index Fund (ILF ) or MSCI Mexico Index Fund (EWW ). While Mexico doesn't enjoy the celebrity status of rival Brazil, it is undergoing something of an economic renaissance. With its last financial crisis more than 10 years behind it, Mexico is enjoying record foreign currency reserves and an investment-grade debt rating, thanks to much-improved fiscal discipline. It even boasts several companies listed on the New York Stock Exchange or NASDAQ and dozens of others that trade over the counter, including Wal-Mart de México (WMMVY ). Money managers are especially keen on stocks in the residential construction business as more and more Mexicans qualify for loans to build their own homes. These include NYSE-listed Desarrolladora Homex (HXM ) and cement maker Cemex (CX ). "The home sector is very exciting," says OppenheimerFunds' Madden. "They've got huge unmet demand for housing."

South Africa has also surprised on the upside largely because of the spending restraint exercised by its government. While the country has long been viewed as a one-trick pony for precious-metals stocks, a strong currency has dimmed prospects for commodity and other export plays. Instead, the smart money is looking for opportunities in domestic-oriented sectors such as retailers and consumer banks. Those with ADRs traded over-the-counter include shoe distributor Edgars Consolidated Stores Ltd. (ECSJY ) and bank ABSA Group Ltd. (ABSWY ). There is also an iShares ETF, the MSCI South Africa Index (EZA ). "We've seen a rotating out of mining into more domestic names," says Julie L. Pfeffer, a senior analyst at DuPont Capital Management in Wilmington, Del., which has $600 million invested in emerging-market equity, including South African shares.

Another popular African stock market is Egypt's, which has been among the best performers -- up 640% in U.S. dollars over the past three years. That's due both to the stepped-up pace of economic reforms in the country and an influx of petrodollars from Gulf states awash in cash from higher oil prices. Commercial International Bank, a leading commercial bank and a favorite of stockpickers, is also one of the few Egyptian shares available as an ADR.

Eastern Europe, from the Baltic to the Balkans, is likewise blossoming thanks to reforms put in place after the collapse of the Iron Curtain. The countries closest to adopting the euro as their currency are favored -- and Poland is at the top of that list. While a laggard this year -- it's up only 21% in U.S. dollars -- Poland serves as a cheaper proxy for Western Europe since its fortunes are closely linked to those of Germany, the Continent's largest economy. Among the stars: Polish media companies, which are benefiting from an advertising boom and have "great growth potential," says Emery Brewer, the Prague-based portfolio manager of the Driehaus Emerging Markets Growth (DREGX ) Fund. Agora (AGORY ), a leading Polish newspaper and radio concern, is among the few stocks traded over the counter in the U.S.

Turkey is eager to join the European Union and is pushing economic reforms. The nation also boasts a younger workforce than most of nearby Eastern Europe. The country is home to a thriving manufacturing base serving both Western Europe and the Middle East. Turkey's banks are profiting handsomely from an explosion of corporate and consumer lending. Those with OTC ADRs include Akbank (AKBTY ). "Turkish banks have done very well and are likely to continue to do so," says Michael L. Reynal, a London-based portfolio manager at Principal Global Investors, which has $1.6 billion invested in emerging markets. "They are seeing huge loan growth."

During the last big bull market for emerging markets a decade ago, Southeast Asia led the pack. But even after a wrenching correction in the wake of the 1997 financial crisis, these so-called Asian Tigers have consistently underperformed their global peers. "The stars of the past haven't been able to reinvent themselves and are now being squeezed by China and India," says Ruchir Sharma, co-head of global emerging markets at Morgan Stanley Investment Management (MWD ) in New York. South Korea, though, has just begun to pull out of a tailspin. While powerhouses such as Hyundai and Samsung Group are must-haves, more domestic outfits, such as OTC-traded Kookmin Bank (KB ) and Korea Electric Power (KEP ), may be poised for growth. The iShares MSCI South Korea Index Fund (EWY ) is also worth considering.

While few market hands see red flags in the emerging world, success could breed the kind of complacency that got the Tigers into trouble in the 1990s. Even so, developed nations can't match the growth of emerging economies. "The decade could belong to emerging markets," says Morgan's Sharma. "And we're only halfway through."

By Chester Dawson

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