These Emerging-Market Bargains Are Disappearing

Throughout the financial crisis, emerging-market economies harbored some of the world's only bright spots. As a result, prices of emerging-market stocks have risen even faster than U.S. stocks during the nearly year-long rally. And even after these big moves, one of the few ways to buy emerging-market stocks that will give you a bit of a bargain has started to vanish.

Going for growth
International investors had a lot of things going for them over the past year. After an initial flight to safety boosted its value, the U.S. dollar has skidded substantially from its year-ago levels. That, in turn, has increased the value of investments denominated in foreign currencies, including international stocks and bonds.

In addition, plenty of investors look for growth wherever they can find it. During the worst of the recession, countries like China and India were just about the only places in the world you could still find economic growth. And now that the global economy appears poised to rebound, these same economies, along with Brazil and other emerging countries, are most likely to see their growth rates return to their former high levels fairly quickly.

That combination of factors has driven the prices of many emerging-market stocks through the roof. Here are some examples:

Stock

1-Year Return

5-Year Avg. Annual Return

Petroleo Brasileiro (NYSE: PBR  )

97%

40.5%

Baidu (Nasdaq: BIDU  )

251.1%

57.8%*

Infosys (Nasdaq: INFY  )

114.4%

12.4%

Mechel OAO (NYSE: MTL  )

465.4%

29%

Vale (NYSE: VALE  )

151.6%

39.4%

Source: Yahoo! Finance.
* Figure for Baidu is four-year average annual return, since Baidu's IPO was in Aug. 2005.

These extremely high rates of return have many investors increasingly concerned about a potential bubble. Even with unparalleled growth rates, these countries and the companies that do business within them arguably can't sustain the growth necessary to justify such high valuations.

Hunting for bargains
For those looking to buy international shares at a discount, closed-end funds have long provided a source of possible buys. Because of the unique way that closed-end funds are structured, their trading price often differs from the actual value of the investments they own. In many cases, that means you can pick up shares of funds that specialize in international stocks for less than the current value of those stocks.

For example, here are some funds that currently trade at discounts to their net asset value:

Fund

1-Year Return

Current Premium (Discount) to Net Asset Value

Latin American Discovery Fund (LDF)

106.9%

(4.9%)

India Fund (NYSE: IFN  )

93.1%

(5.8%)

China Fund (NYSE: CHN  )

96.7%

(2.4%)

Central Europe and Russia Fund (CEE)

122.3%

(12.7%)

Source: CEF Connect, Yahoo! Finance.

At first glance, this sounds like a great deal, since these funds let you pick up a dollar's worth of assets for between $0.87 and $0.98. But if you look more closely, you'll notice that these and other similar funds traded at even deeper discounts in early 2009, during the height of the financial crisis. So even though these investments offer some good value, they're not as attractive as they were a year ago.

Moreover, most closed-end funds trade at discounts for a very valid reason: Shareholders don't have any right to demand their money back from the company that manages the fund. Their only recourse is to find buyers on the secondary market -- and at times, those markets dry up, leaving sellers with no choice but to accept whatever bids they can find.

Keep your eyes open
Despite their big run-up, emerging-market stocks still look attractive to many people. If you believe that the growth we've seen in the emerging markets so far is just the tip of the iceberg and will continue for years to come, then paying even the currently inflated prices may be a smart move.

But if you're looking to find big bargains in emerging market stocks via closed-end funds, you won't find them right now. Although you can still find some small discounts, the markdowns aren't what you're used to seeing -- and they aren't big enough to justify using them to make big bets on emerging markets.

Emerging-market stocks have promise, but they don't come without risk. Rex Moore has three reasons to be scared of foreign stocks right now.

Fool contributor Dan Caplinger got into emerging markets early but is nervous about their big rise. He owns shares of the India Fund. Baidu is a Motley Fool Rule Breakers recommendation. Petroleo Brasileiro is a Motley Fool Income Investor pick. Try any of our Foolish newsletter services free for 30 days. You can't get cheaper than free, which is what The Fool's disclosure policy will cost you.


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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On January 12, 2010, at 9:42 PM, urche wrote:

    Another set of funds I find intriguing are HQH and HQL. These are managed healthcare funds with considerable overlap and also an interesting way for investors to get exposure to some private companies. Both are trading at about 18% discount to NAV. Admittedly, NAV is less precise to calculate for these funds due to the illiquid nature of some of their holdings. But, even still, as a value oriented investor, I have found these funds irresistible.

    urche

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