Market Power


This is an excerpt from Cabot China & Emerging Markets Report, which seeks to capitalize on the big boom in China and other emerging market countries. Editor Paul Goodwin, Cabot’s international investing guru, provides your passport to profits.

The recent meltdown in the market has kept our Emerging Markets Timer clearly bearish.  The Golden Dragon Fund (PGJ) has fallen a maximum of 31% from its June peak to this week’s low (on a closing basis), and even after the modest bounce from Monday’s panic low, the fund is still miles below its 25- and 50-day moving averages.  Thus, the intermediate-term trend is strongly down.

Eventually, this downmove will result in many incredible opportunities as new leadership sets up and the market begins sustained advances.  But right now, your best move is to hold plenty of cash, build a watch list and remain patient, waiting for the market to find a major low.

The headline for this commentary should be, “Markets 1—Chinese Government 0. That’s because what just happened in China is an illustration of the difficulty of controlling a market and the potential downside of trying.

We’ve told the story of the government’s efforts to prime the stock buying pump and what happened when it got anxious about the warp-9 speed of the market’s advance and tried to put the brakes on (a little) by raising margin requirements. The results of that miscalculation are seen in June and July.

The results of the government’s attempts to prop up the market and restore its momentum are evident in the July–August up-and-down action. Despite huge capital outlays in direct stock buying and proxy buying, the market just wouldn’t revive.

And the last three days show what happened when the government gave up on its resuscitation efforts and shifted its attention to stimulating the economy instead. A couple of devaluations of the yuan, an interest-rate cut and adjustments to banks’ reserve requirements represent the government’s latest thinking on how to get national economy back on track: Forget the stock market, get the economy growing again.

In other words, the market won and the government lost. The result may be uncomfortable in the short term, as the market may have more correcting to do. But in the long run, allowing market forces to operate without manipulation by the government will make for a healthier, more stable market.

At this point, with our portfolio 70% in cash and purged entirely of Chinese stocks, we can take a little time to figure out what to do next.

One thing we’re doing is changing the name of Cabot China & Emerging Markets Report. That name has been a fair description of what this publication has sought to do for the past decade-plus, find the strongest stocks in the fastest-growing markets on earth and tell you how to invest in them.

But it’s been obvious for a while that China, although it’s still by far the most important of the developing countries, isn’t really “emerging” in the sense of being undiscovered and underappreciated. A Chinese IPO still holds the record for the biggest in Wall Street history and the fact that a crash in the Chinese stock market can take a bite out of U.S. indexes shows how big this market has become.

Our new name—Cabot Emerging Markets Investor—will still reflect our search for the best opportunities among the growing nations of the world. And yes, we will still include China in our coverage.

But what we’re really looking for is the next China, the country that is picking up speed, but hasn’t really shown up on most investors’ radar. It should be fun. 

A researcher and writer for over 30 years, Paul Goodwin has been a member of the Cabot investment team and chief analyst of Cabot China & Emerging Markets Report since 2005.

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Paul Goodwin can be found on Google Plus.

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