After watching their portfolios take devastating blows in 2008, many investors hoped that a new year would bring a reversal of fortune and a recovery of lost assets.

After the first two months of the year tested resolve, things finally took a turn for the better in March, and a long climb upwards began. Most equity ETFs experienced solid gains in 2009, adding more than 20% on the year. But as always, some fared better than others, with several funds outpacing broad-based benchmarks by a considerable margin. And then there are the handful of ETFs highlighted below that delivered enormous gains.

These funds have each gained at least 85% this year, putting them in the top two percent of all equity ETFs in our ETF Screener. It should be noted that only funds operating for all of 2009 have been included in this list (although we did bend this rule a bit for one fund with particularly stellar results).

10. SPDR S&P Emerging Markets Small Cap ETF (EWX)

Most investors choose to achieve emerging markets exposure through funds that invest primarily in mega cap companies (such as VWO and EEM). But EWX, which is based on an index that has a median market capitalization of under $300 million, has outperformed these more popular ETFs by a wide margin in 2009, gaining 83% (EEM is up about 62% year-to-date).

9. iShares MSCI Turkey Investable Market Index Fund (TUR)

When looking for international equity exposure, most investors likely don’t turn to Turkey, the Eurasian nation with one of the world’s youngest populations and a strategic location between Europe and the Middle East. TUR has gained almost 90% so far in 2009, thanks in large part to a booming financial sector that accounts for about half of the fund’s assets.

Turkey now finds itself in an interesting position caught both geographically and economically between the developed economies of Western Europe and the less stable Middle East.

8. Claymore/AlphaShares China Small Cap Index ETF (HAO)

With much of the developed economy contracting through the first half of 2009, China is expected to account for a significant portion of global GDP growth, and has cemented its status as the leader of the worldwide recovery efforts. The Chinese economy is firing on all cylinders — energy, technology, industrials, and consumer products are booming — and investors in China ETFs have watched their assets surge this year. The small-cap focused HAO has led the way, posting gains of 91%. The much larger iShares FTSE/Xinhua China 25 Index Fund (FXI) has gained about 43% on the year – an impressive tally, but less than half the return of HAO.

7. SPDR S&P Emerging Latin America ETF (GML)

Beyond Brazil (we’re getting to that ETF), the Latin American economies of Mexico, Chile, and Peru have also delivered big returns in 2009. GML has exposure to all of these countries, and is up about 93% year-to-date. Latin American economies suffered in 2008 as demand for many commodities dried up in connection with a pronounced downturn in the global manufacturing sector. But factories are now coming back online, and demand for raw materials has surged, particularly in the emerging markets of China and India.

GML isn’t the only Latin American fund to post big gains so far this year: the iShares Latin America 40 Index (ILF) is up 83% on the year while the Global X/InterBolsa FTSE Colombia 20 ETF (GXG) has gained 96% since its launch in February.

6. iPath MSCI India ETN (INP)

This Year, not to be outdone by fellow BRIC economies, India turned in an impressive 2009 that saw INP gain 94%. This ETN’s big jump came in May, when the election of the pro-business Indian Natural Congress sent equity markets up 25% in a single session. But Indian equity markets surged throughout the rest of the year as well as the economy resumed its impressive expansion following the global downturn.

The WisdomTree India Earnings Fund (EPI) and PowerShares India Portfolio (PIN) have also surged this year, gaining 86% and 72%, respectively.

5. Market Vectors Steel Index ETF (SLX)

When the recent recession hit, need for industrial and building materials sunk, and steel prices sunk along with other industrial metals. Facing weakening demand, many steel mills slashed operations and began incurring big losses.

But as the economy has rebounded, prices have recovered and mills have seen a big uptick in orders for all types of steel products. SLX has gained about 104% this year, and is up almost 150% from the bear market lows in March.

4. iShares MSCI Brazil Index Fund (EWZ)

The highlight of 2009 for many Brazilians was likely the naming of Rio de Janeiro as the host of the 2016 Olympic Games, but the year was full of memorable highs for investors in Brazilian equities. “The impact of the global economic slowdown on Brazil’s economy was shorter and less severe than in many other parts of the world,” writes Alastair Stewart, noting that consumer demand is now driving the economy forward.

EWZ has added about 111% so far in 2009, making it one of the top performing emerging market funds. Another Brazil ETF, the Market Vectors Brazil Small-Cap ETF (BRF) also performed well, gaining almost 90% since its inception in May.

3. Market Vectors Coal ETF (KOL)

Because coal is used heavily in power generation and steel production, need for this resource plummeted in 2008 as manufacturing activity and raw material demand sunk. But as shifts came back online and orders from emerging markets surged, coal prices recovered and the stocks of companies engaged in the mining and production of the energy source soared. KOL has gained more than 130% in 2009, handsomely rewarding investors who were fortunate enough to get in at the true market bottom.

Also delivering impressive results in 2009 was the PowerShares Global Coal Portfolio (PKOL), which is up a whopping 122% for the year.

2. Market Vectors Russia ETF (RSX)

Given its dependence on the energy sector, an investment in the Russian equities can be extremely risky. But this emerging economy surged in 2009 as a recovery in prices boosted government revenues. Significant obstacles remain on the road to recovery, but Russia is expected to show further expansion in the fourth quarter and deliver modest growth in 2010.

Russia’s stellar performance means that all four BRIC economies found a place among the best performers of 2009, highlighting the importance of an allocation to this bloc of emerging markets. In addition to country-specific exposure, there are several ETFs offering diversified exposure to these four countries.

1. Market Vectors Indonesia Index ETF (IDX)

The year’s best performer has been the Market Vectors Indonesia Index ETF (IDX), which has gained almost 160% since its launch in mid-January (technically, IDX hasn’t been trading for all of 2009). One of the lesser-known emerging markets, Indonesia is now home to one of the world’s fastest-growing economies. Indonesia is a commodity-rich nation, home to ten highly-prized commodities such as coffee, palm oil, rubber, and rice.

IDX is diversified across all sectors of the economy, including exposure to financials, materials, and energy companies.

Themes Emerging

Looking through the funds above, a few trends begin to emerge. Many of the industries that were hit the hardest on the way down (e.g., coal, steel, semiconductors) are now leading the way higher. The losers of 2008 have become the winners of 2009. It’s also interesting to note that four of the top five performers are Van Eck ETFs.

It’s also interesting to note that most of the year’s biggest gainers have limited exposure to U.S. markets, with several emerging economies making the list. U.S. markets bounced back in 2009 after a horrendous performance in 2008, but it has become clear that the emerging economies will take the lead in the current recovery effort, and developed world powers will follow behind. With unemployment above 10% and the challenge of winding down a massive stimulus package still ahead, slow but positive economic growth would be a great success for the U.S. economy. But the U.S. is hardly alone, and is actually in far better shape than many developed European and Asian economies.

Eight of the year’s ten best performers are emerging markets, highlighting a shift in the strategies of many investors away from domestic equities and towards more diversified international exposure.

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Back in the heady days of 2006 some 30,000 cranes, roughly a quarter of total global capacity, were busy whirring away in Dubai.

Today most of these devices have either left to find service in other parts of the globe, or lie silent, unused and unloved. In what is only the latest sign of the ongoing property snarl-up affecting the emirate Nakheel, Dubai World’s property developer subsidiary, asked on Wednesday for a delay in their next debt payment. The move was widely seen by investors as a technical default, raising concerns about investment in risky assets right across the globe.

So while their company slogan may well be that the sun never sets over Dubai World, the fact is that Dubai World’s sun not only no longer shines, it is suffering from something more like a total eclipse.

According to the last reckoning, government owned Dubai World has some $59 billion in outstanding liabilities, making the company responsible for the lion’s share of the total $80-100 billion in estimated Dubai state debt. Up to now all maturing government-linked debt has been paid off in full, with government funds making up any shortfall in private funds. But the latest announcement suggests that weaknesses in the global property sector and vulnerability of the emirate’s economic model is leading the government to have second thoughts, and the clear impression is that Nakheel could be a very different story given the government’s expressed intention of supporting only viable companies.

More than the scale of the issue, the problem this week in Dubai has been the uncertainty created, the underlying lack of transparency about the state of corporate and national finances and about exactly which debt will be honored, and above all about whether or not other countries – both within and outside the region – will be affected via the process known to financial analysts as contagion.

The consequences of the present payment standstill are wide ranging, as would be the impact of any eventual default. The repayment of Dubai World’s $4 billion Nakheel bond was seen by investors as a key test for the emirate’s ability to deal with the rest of the $80 billion or so owed by the government and its state-controlled companies. Dubai’s ability and willingness to do just this is what is now in doubt, and the way the process has been handled so far is leading to all manner of investor speculation.

The blow caused by the announcement was initially softened by news earlier the same day that the government had raised $5 billion from Abu Dhabi banks, but this optimism was soon dented as it sank in that the figure was considerably less than what the emirate had been hoping to attract from external investors and the sequencing of the two announcements is interpreted as suggesting that the Abu Dhabi money will not be spent on companies like Nakheel and Dubai World.

Indeed Dubai’s growing problems had been evident for some time, with the credit rating agencies sharply downgrading Dubai government-owned corporations over the last year as expectations for the extent of likely government support have declined. Earlier this month Moody’s cut the ratings on Dubai Ports World, and Dubai Electricity and Water to Baa2 (junk status) from A3 and downgraded 4 other government linked companies, with the agency noting in its press release that the debt restructuring plan “highlights the government’s intention to strictly adhere to its stated policy of supporting only those companies with viable long-term business prospects”

Aside from the Dubai issue itelf the big worry now is possible contagion to other markets, with Central and Eastern Europe in the forefront of everyone’s mind, given the overlap in bank exposure. The announcement also lead to a sharp a drop in the value of the UK pound on the fear that the Dubai government could be forced into a rapid sale of its international real estate, and since the emirate has extensive UK property holdings which might go under the hammer any such move would clearly have implications for the UK property market, and the banks that have exposure to it.

In total European banks are estimated to have some $40 billion of exposure to Dubai with Standard Chartered leading the group according to research from Credit Suisse. HSBC Holdings, Barclays, Royal Bank of Scotland Group and Lloyds Banking Group also have some, significantly lower, exposure.

Since the decision to halt payments has raised fears of the largest sovereign default since Argentina 2001, most of the attention has been focused on sovereign debt issues, and these, of course, extend far beyond the Middle East itself. In particular European bond market worries grew over the ability of riskier government borrowers from Russia to Greece and Italy to pay back their debts in the longer run. And it is just here that one of the long term consequences of what happened this week in Dubai can be found, since with government after government pressing the accelerator pedal hard to the floor on the stimulus front, and digging ever deeper into the public purse to plug gaps in the bank balance sheets, the perception that paying back all the accumulated debt may be harder than expected, especially with ageing population problems to think about, is now gaining traction among investors. And once sovereign debt default fears really come up over the investor radar, it is going to be very hard work to remove them.

Greek sovereign debt in particular is attracting a great deal of attention, and this week one historic milestone has been passed, since the cost of insuring Greek debt for the first time equalled that of insuring equivalent Turkish debt. At first sight this is very shocking news, since as recently as 2007, the Turkish CDS spread was trading at about 500 basis points on perceived fiscal risks. The Greek spread, by contrast, was nearer 15bp. The country is, after all, a member of the European Monetary Union, and its euro-denominated bonds were considered effectively protected by other euro states. But over the past year the fiscal position of many emerging markets nations, Turkey among them, has become more favourable, while that of some Eurozone countries, including Ireland and Spain as well as Greece, has steadily deteriorated.

Evidently such comparisons constitute a fairly bitter blow to Greek pride, but there is a much bigger issue here, one which goes straight to the heart of the Dubai saga. Two years ago, global investors generally did not spend much time worrying about the risk that seemingly remote, nasty events might occur. But the financial crisis has changed this perception. Having had their fingers badly burned once, investors are eager not to have it happen a second time, which is why what is happening in Dubai now makes them nervous, and why Europe’s governments would do well to think more about the future, and especially about ensuring that we don’t see Dubai like events starting to happen much nearer to home.

Today financial markets all over the world dropped by 2-3 percent. That is quite a big, taking into account that major financial and economic news during the past few weeks has been quite good. All major investors, economists and decision takers seemed to agree that we were leaving the recession caused by the Global Credit Crisis behind us.

But just as much as the Global Crisis was according to us at LMG a nice example of Overreaction, we’re seeing a new example here! People will never learn! Time after time behavioral tendencies seem to lead markets into some kind of overreaction. Or like that famous German saying: ”Zum Himmelhoch Jauchzend, zum Tode getruebt” (free after Goethe).

Financial journalists explained the 2-3 percent losses in all major Asian and European markets (the US couldn’t give guidance due to the fact that it was also Thanksgiving) by the news that Dubai World had announced that it was incapable of paying off its debts of USD 60 billion. After some quick calculations analysts found out that European banks were holding some USD 40 billion of this debt. But in and of itself it was not ‘new’ news that Dubai was struggling.

A couple of weeks ago it already became clear that new loans from Abu Dhabi were actually necessary to help Dubai pay off older debt and interest. This is such a different story when comparing it with the fantastic news stories seen a couple of years ago in all major magazines and news papers about a new world miracle taking place in the Arab desert. Dubai was a modern Babylon and the construction of the Burj Dubai tower, the highest building in the world, added to this.

The idea that Dubai would be capable in a few years to establish itself as the next major financial center in the world, doing in a few years what had cost countries like Hong Kong and Singapore decades, was the beginning of the overreaction (i.e. the positive side of it). Loads of investors, banks, governments etcetera seemed to forget that trees don’t grow into heaven without paying some kind of price and/or without doing the necessary preparatory work. Trendy Europeans, Americans, movie stars, sports heros all of them tried to get a place under the sun (literally in this case) by buying one of the islands in the extravagant off-coast Palm Island project.

But this type of overreaction was oh so similar to what already had been described by scientists Werner De Bondt and Richard Thaler back in 1985. Exaggeration leads people to pay too much to be part of an allegedly ‘hot market’. That hot market in what in and of itself is a fantastic region in the world – the Middle East – was then caught by the Global Crisis and panicky investors. Property prices in Dubai dropped as much as 60 percent. The city, in the meantime transformed into a mega construction site, switched from being one of the world’s busiest and most entrepreneurial places to one characterized by paralysis. New projects were cancelled and work on existing ones was stopped and postponed.

But OK, this was all already taking place. So let us now – after a good period for Emerging Markets since March of this year – analyze what was going on today. The total debt of Dubai World is $ 60 billion. World markets (ex USA) dropped 2-3 percent. Let’s say 2.5 percent on average. That 2.5 percent is about the size of a market like the Netherlands or Switzerland when looking at global market sizes.

In other words: if Dubai World would go bankrupt completely without its government helping it out one way or another (directly or indirectly through the support of other United Arab Emirate partners like Abu Dhabi, Bahrein, Qatar etc) and this 2.5 percent drop would be ‘correct’ it would have to be similar in size to loosing markets of the size of the Netherlands or Switzerland. However, both are far bigger than the $ 60 billion that is at stake. True, Western banks that are just about to recover from the Global Crisis (helped by their governments) will have to face a new big problem and that could have far-reaching consequences.

But the bottom-line is that the sizes of the Dutch and Swiss economies are about 10-15 times larger than what is at stake here in Dubai. Therefore, by all means markets are overreacting once again.

And don’t forget: the US markets were closed due to Thanksgiving. When observing how European markets move before mid-afternoon vis-a-vis the end of the day we all know that when the US markets don’t provide investors across the globe with their guidance, paralysis and fear are more likely to strike.

The MSCI Emerging Markets Index has notched up a massive 72.3% gain for the year to date, and an even more impressive 101.4% since the March 9th  lows.

Although emerging markets were the clear leaders during the initial months of the recovery, the MSCI World Index has subsequently done some catching up but still lags with gains of 26.7% and 69.3% for the two measurement periods.

The chart below shows the performance of the MSCI Emerging Markets Index relative to the Dow Jones World Index. Needless to say, an upwardly sloping line means outperformance by developing stock markets.

Should emerging markets be renamed “emerged” markets? Let’s consider two graphs to gain a better understanding of one of the key drivers of emerging stock markets.

As shown below, the Emerging Markets Index is primarily driven by commodity prices and in particular by metal prices as measured by the Economist Metals Price Index. Considering the historical relationship, emerging-market equities seem to be fairly priced given the level of metal prices.

All other things being equal, the outlook for emerging markets, or at least the resource-related ones, appears positive given the favorable prospects for metal prices on the back of improving global industrial production and stronger global economic growth.

What is important is that the ratio of the Emerging Markets Index and World Index is also driven by commodity prices and specifically metal prices. As shown below, the relative risk of investing in emerging-market equities has increased as the ratio has outrun metal prices.

Longer term I have little doubt that emerging markets will outperform their mature peers. However, over the next few months metal prices would need to rise quite substantially to ensure further outperformance by the Emerging Markets Index. At best, I would expect emerging markets to maintain the current relative levels against the MSCI Global Index should metal prices move sideways.

The International Energy Agency (IEA) released its highly-anticipated World Energy Outlook on Tuesday, singling out potential climate change initiatives as a major driver of oil consumption and prices in coming decades.

If a major agreement to cut greenhouse gas emissions is signed and implemented in coming years, global crude oil demand could increase by only four million barrels per day by 2030. The increase from current consumption levels of about 85 million barrels to 89 million barrels represents a relatively small bump that could help keep prices lower.

Spencer Swartz of the Wall Street Journal wrote:

A climate-change agreement would help propel industries and consumers toward using energy more efficiently and incentivize the auto industry to develop electric vehicles and other nonoil technologies.

But that prediction comes with a big “if.” The Kyoto Protocol, a UN treaty aimed at combating global warming, is set to expire in 2012, and delegates from nearly 200 countries will be meeting in Copenhagen in December with the goal of devising a successor agreement. There is significant skepticism over the ability of developed and emerging economies to agree on the sharing of burdens associated with reducing greenhouse gas emissions. Without a new climate change agreement in place, the IEA estimates that global oil consumption will rise to 105 million barrels per day by 2030, implying that the presence of an a comprehensive emission reduction plan could result in a 15% decrease in global oil demand.

The IEA also released predictions for oil prices in coming years: crude is expected to cost $100 per barrel by 2020 and $115 per barrel by 2030, reflecting annual price increases of between 2% to 3%, roughly in line with inflation.

Any news regarding the future direction of oil prices will have an impact on exchange-traded products such as USO and OIL, however one stands out in particular.

Emerging Global Dow Jones Emerging Markets Energy Titans Index Fund (EEO): According to the IEA, emerging markets, such as China and Brazil, are expected to account for the vast majority of increases in global oil demand going forward. As these developing economies continue to expand, they will also continue to develop a tremendous need for fuel and natural resources.

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There are compelling reasons to invest in Brazil, Russia, India and China, popularly known as the BRIC economies, as these countries become a much larger force in the world economy.

Goldman Sachs predicts that the BRIC nations could overtake the combined gross domestic product of the G7 nations in 20 years.

“BRIC markets have begun to outperform strongly again,” AmInvestment Bank chief investment officer, equities Andrew Wong said at a media briefing on Outlook and Opportunities for BRIC markets yesterday.

He said that with a combined population exceeding 2.8 billion, which represents 42% of the world’s population, these countries were a major force within the emerging markets. Wong said that BRICs would spend $22 trillion on infrastructure in the next decade to sustain growth and modernise their electricity and power network.

“The $12bil Beijing-Shanghai high speed railway is planned for 2010 while the Russian government plans to modernise the electricity and power network,” he said.

He also said Brazil had earmarked $200bil for its 2007-2010 Growth Acceleration Project to modernise the road network, power plants and ports, among other projects.

Wong said that as the developed countries faced a slow and difficult recovery, the world could look to the BRICs to increase their contribution to global domestic demand through higher consumption. As the middle-income group expanded in these countries, their spending power would increase in tandem, he said.

He added there was trade between the four countries as each of the BRIC countries had its own economic strengths and advantages, which largely complemented each other.

“Synergies between BRIC countries could enhance their position in the global economy,”

Investigating the patterns of exchange rates, interest rates, and international reserves during 1970-1999, Calvo and Reinhart (2002) inferred the prevalence of the “fear of floating”. Countries that say they allow their exchange rate to float mostly do not. Instead, frequently the authorities are attempting to stabilise the exchange rate through direct intervention in the foreign exchange market and in open market operations. The fear of floating may also explain the massive hoarding of international reserves during the last ten years by emerging markets and other developing countries, though alternative explanations include the precautionary and/or mercantilist motives (Aizenman and Lee 2007, 2008), as well as the reincarnation of the Bretton Woods system (Dooley et al. 2004).

In recent research, we investigate the degree to which the fear of floating guided the adjustment of emerging markets to the unfolding global financial crisis (Aizenman and Yi 2009). This crisis presented daunting challenges to emerging markets – the “flight to quality,” deleveraging, and the rapid reduction of international trade began inmid-2008, testing their adjustment capabilities. While in many earlier crises, emerging markets were forced to adjust mostly via rapid exchange rate depreciation, the sizable hoarding of international reserves during the late 1990s and early 2000s provided these countries with a richer menu of choices. A prime concern of our study is the degree to which the large earlier hoarding of international reserves “paid off,” by allowing emerging markets to buffer their adjustment by drawing down their international reserves.

We investigate the adjustment of 21 emerging markets during the window of the crisis, and found a mixed and complex picture.¹ Figure 1 presents the countries’ monthly international reserves (IR), measured relative to their peak from January 2008 until February 2009. Regression analysis shows that emerging markets with a large primary commodity export, especially oil export, tended to experience large reserve losses in this global crisis. Countries with a medium level of financial openness and a large short-term debt ratio also lost on average more of their initial holdings. Most of the countries that suffered large international reserve losses started depleting them during the second half of 2008, and many have still not returned to pre-crisis levels.

Intriguingly, only about half of the emerging markets relied on significant depletion of their international reserves as part of the adjustment mechanism. We proceeded by dividing our sample into two groups: countries with sizable reserve losses, and countries that did not lose reserves or quickly recovered them. We define the first group as countries that lost at least 10% of their international reserves during the period of July 2008- February 2009, relative to their peak. Among 21 emerging markets, nine countries are in the first group.²

Figure 1. Emerging markets’ international reserves relative to peak holdings, Jan 2008 – Feb 2009

emerging markets

To gain further insight, we compare the pre-crisis demand for reserves as a share of GDP of countries that experienced sizable depletion of their holdings to that of countries that didn’t, and we find different patterns between the two groups. Trade-related factors (trade openness, primary goods export ratio, especially large oil export) seem to be much more significant in accounting for the pre-crisis reserve-to-GDP ratio of countries that experienced a sizable depletion of their reserves in the first phase of the crisis. These findings suggest that countries that internalised their large exposure to trade shocks before the crisis used their reserves as a buffer stock in the first phase of the crisis. Their reserves losses followed an inverted logistical curve – after a rapid initial depletion of reverses, they reached within seven months a markedly declining rate of reserve depletion, losing not more than one-third of their pre-crisis holdings. In contrast, for countries that refrained from a sizable depletion of their reserves during the first phase of the crisis, financial factors account more than trade factors in explaining their initial reserves-to-GDP level. The patterns of using reserves by the first group, and refraining from using reserves by the second group, are consistent with the “fear of losing reserves”. Such a fear may reflect a country’s concern that dwindling reserves may signal greater vulnerability, triggering a run on its remaining reserves. This fear is probably related to a country’s apprehension that, as the duration of the crisis in unknown, depleting international reserves too fast may be sub-optimal – it exposes the country to the risk of abrupt adjustment if the crisis turned out to be deeper and more enduring than it initially believed.

Our paper suggests that there exists a clear structural difference in the pre-crisis demand for international reserves between emerging markets that were willing versus those that were unwilling to spend a sizable share of their holdings during the first phase of the 2008-9 crisis. Trade-related factors are more significant in accounting for the pre-crisis reserve level of the countries that experienced a sizable depletion of their reserves in the first phase of the crisis, in line with the buffer stock interpretation of the demand for international reserves. Countries that depleted their reserves in the first phase of the crisis, refrained from drawing their reserves below one-third of the pre-crisis level, with the majority using less than one-quarter of their pre-crisis holdings. Countries whose pre-crisis demands for international reserves were more sensitive to financial factors refrained from using them altogether, preferring to adjust through larger depreciations. These patterns may reflect the fear that dwindling reserves may induce more destabilising speculative flows. Our results suggest that the adjustment of emerging markets during the on-going global liquidity crisis has been constrained more by their fear of losing international reserves than by their fear of floating.

These findings raise new questions. More work is needed to understand why countries differ in the weight assigned to financial versus commercial factors in accounting for their demand for reserves. Intriguingly, the average exchange rate depreciation rate from August 2008 to February 2009 was about 30% in both emerging markets that depleted their reserves and those that refrained. A hypothesis that can explain this observation is that the shocks affecting the emerging markets that opted to deplete their reserves were larger than the shocks impacting emerging markets that did not. Testing this possibility requires more data, not available presently, including the deleveraging pressures during the crisis. This hypothesis, if valid, implies that countries prefer to adjust to bad shocks first via exchange rate depreciation, supplementing it with partial depletion of their international reserves only when the shocks are deemed to be too large to be dealt only with exchange rate adjustments.

The fear of using reserves also suggests that some countries opt to revisit the gains from financial globalisation. Earlier research suggests that emerging markets that increased their financial integration during the 1990s-mid 2000s, hoarded reserves due to precautionary motives, as self-insurance against sudden stops and deleveraging crises. Yet, the crisis suggests that for this self-insurance to work, it may require levels of reserves comparable to a country’s external financial gross exposure (see Park (2009) analysing Korea’s challenges during the crisis). In these circumstances, countries may benefit by supplementing hoarding with Pigovian tax-cum-subsidy policies (Aizenman 2009). A possible interpretation for the fear of losing international reserves is the “keeping up with the Joneses’ reserves” motive – the apprehension of a country that reducing its reserves-to-GDP ratio below the average of its reference group might increase its vulnerability to deleveraging and sudden stops (see Cheung and Qian (2009) for such evidence from East Asia). These factors suggest a greater demand for regional pooling arrangements and swap lines, as well as possible new roles for International Financial Institutions. A better understanding of these issues is left for future research.

Original article by Joshua Aizenman, reproduced by kind permission of VOXEu

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Today the market for biotechnology which can be used in pharmaceuticals and medicine (“red biotechnology”) is growing at a moderate pace in Poland.

In 2008 the sales of industry players even declined, as Bioton, the largest Polish biotech firm, performed poorly. Biotechnological firms are working hard on new products, the sales of which will have a substantial impact on the rate of growth of the industry over the next two years.

No significant development in biotechnology before 2011

In the last two years pharmaceutical biotechnology industry in Poland has seen a significant reduction in the annual rate of sales growth, according to the latest PMR Publications report “Biotechnological innovations in the pharmaceutical industry in Poland”.

According to PMR Publications estimates, in 2008 the industry’s revenues suffered as a result of a deterioration in the performance of Bioton, the largest Polish biotech company. It was estimated that, in 2008, biotech companies in the Polish pharmaceutical industry achieved combined sales worth PLN 607m (€173m), around 2% less than the 2007 figure. Nevertheless, in future years, despite the uncongenial economic situation, the market will grow at several percent per year, and in 2011 sales should improve by almost 30% year on year. This will be a consequence of the development of innovative projects which are, today, at the inception or start-up stage and are not yet yielding a return.

EU funds growth of energy industry

As elsewhere in the world, access to high risk financing is crucial to the development of innovative technologies. The availability of EU funds in Poland has made it possible to support the development of investment firms interested in putting money into biotechnology industry ventures which carry some risk. The Innovative Economy Operational Programme is the most important of the accessible EU funds. In addition, as a result of the appropriate use of EU funds, it is, today, easier for companies active in Poland to fund investment in research into and the implementation of innovative technologies. In our opinion, despite the lamentable global economic situation, in the short term Poland has a chance to develop a real biotechnological industry.

According to the Ministry of Economic Affairs, between 2007 and 2013 companies and scientific institutions in the medical, pharmaceutical and biotechnological industries will, with the help of EU funds, implement projects worth around PLN 662m, or approximately €150m, in all (The Innovative Economy Operational Programme), of which PLN 120m (approximately €27m) will be allocated to projects associated with the medical equipment and technologies market and with dietary supplements . Meanwhile, the bulk of the remaining EU funds will be directly or indirectly associated with red biotechnology in Poland. This figure is not final, as many tenders have not yet been completed. In addition, more competitions are to be announced.

Increasing number of innovative projects

Although official statistics do not show an increase in the number of biotechnological companies in Poland, this has, in fact, grown in recent years. For example, in 2007 two biotechnological companies, Mabion and Selvita, were established, and one in 2008 – Celther.

The fact that Polish life sciences are just beginning to develop intensively is best illustrated by the number of new innovative ventures, particularly those in the biotechnology industry linked with the pharmaceutical industry. Significant innovative projects include those carried out by companies such as:

* Celther (stem cell therapy)
* Celon Pharma (siRNA-based therapy)
* Mabion (modified monoclonal antibody therapy)
* Euroimplant (tissue engineering and regenerative medicine)
* Biocontract (innovative vaccines for skin and kidney cancer).

With regard to the abovementioned fields, which are the focus of today’s efforts on the part of Polish firms, these will, in the future, undoubtedly provide a competitive edge for the Polish red biotechnology industry.

PMR Publications is part of PMR – a British-American company providing market information, advice and services to international businesses interested in Central and Eastern European countries as well as other emerging markets. PMR key areas of operation include consultancy and market research.

Comment from : Vittorio Colao, Chief Executive

“In the first quarter the service revenue trend in Europe was consistent with the previous quarter and we continued to see good growth in India and South Africa. Our total communications strategy is delivering well, with organic data revenue up 19% and organic fixed line revenue 7% ahead of the comparative period. Free cash flow generation was strong at £1.9 billion, up 21%. The Group has reaffirmed its guidance for the full year.”

Highlights from the report :

• Group: Revenue £10,743 million, up 9.3%
• Group data revenue of £888 million, up 19.4% on an organic basis
• Free cash flow of £1,896 million, up 21.2%; net debt at 30 June 2009 of £31.2 billion
• Cost reduction programme on track
• Proportionate mobile customer base of 315.3 million; 8.0 million net additions during the quarter

• Europe: Service revenue up 4.4% driven by FX benefits. Data revenue up 17.8%. Fixed line revenue up 5.7%
• Africa & CEE: Service revenue up 26.3% including Vodacom acquisition,Vodacom organic growth of 5.2% offset by weakness in CEE
• Asia Pacific and Middle East: Service revenue up 21.8%
• India service revenue growth of 23.0%

Interesting to see Vodafone making a point of mobile data revenues & 19.4% grwoth is a pretty impressive statistic. Much of this being driven out of Europe, where one of the big booms in mobile data is the popularity of 3G wireless broadband dongles (USB sticks) on “Unlimited” packages, which all the major operators have adopted. Vittorio Collao announced a major cost cutting initiative last November 2008, targetting cost reductions of $1.45Bn by  the end of the 2011 financial year in order to offset the pressures from inflation and the competitive environment and to enable investment in revenue growth opportunities. Savings of more than 65% of this target are expected to be generated by the end of the current financial year.

Vodafone has been at the forefront of network sharing, originally this started in the UK with Orange, now the group has signed a pan-European deal with Telefonica-O2, which will see network sharing being implemented in Germany, Ireland, UK & Spain. Analysts see this as a huge positive, as the deal is set for a ten year term & should save each company in the region of $350 million per annum. The growth figure of 8 million subscribers runs in line with analysts global forecasts for 2009 of circa 13%, as Vodafone is one of the higher value operators in each of its markets, the fact that it is expanding subscribers in a high churn market is positive.

“Old” Europe is the only area where Vodafone operates both fixed & mobile services, predominantly in the UK, Ireland, Spain, Potugal & Germany, where it is the second largest provider of broadband via its Arcor business unit. Having already discussed the cost savings initiative with Telefonica, the main story here is on how Vodafone are manbaging to reduce churn & promote ARPU via new services. Vodafone is far & away the leader in all of these markets regards business services (excepting Germany, which is dominated by T-Mobile), with consumer playing a strong supporting role, crucially the majority of these accounts are postpaid, which is reflected in higher service revenues than is the norm in this sector.

Another area that Vodafone is finally catching onto is the machine-to-machine market, or M2M. The company has made some recent investments in this sector & is set to benefit as the market grows from $4.2Bn in 2008, forecast to rise to $12.5Bn by 2012. It’s not all good upbeat news though, as recent EU intervention in roaming charges has had a detrimental effect on voice service revenues aceross the board. Retail termination costs have hit this part of the business very hard, with only Netherlands showing minimal growth of 0.6% mainly due to MVNO operations, whilst at the other end of the scale, Greece voice revenues sank by 15%.

In “new” Europe (CEE) & Africa, the atypical Emerging Markets,  we are presented with a mixed bag, however the region saw service reveues grow by 26.5%, mainly due to Vodacom (of which more later). Vodafone has seen serious competition in Romania, where no less than 6 operators are competing for one of the lowest ARPU generating populations in Europe, the situation not being helped by the extremely poor performance of the Lei versus the Euro. Similarly, Turkey has not been the shining star that Vodafone had expected when it launched their in 2005. However, now that 3G services are finally being launched, Collao today announced that the company would be investing up to $675 million in network infrastructure over the next 12 months, as Turkey has very low fixed line connections, mobile broadband is set to be a revenue enegine. I also have a feeling that as & when Turkey accedes to the EU, plenty of “rural” grant funding will be made available for the three network operators to provide near 100% coverage. At time of writing, there are some rumours of Turkcel & Vodafone entering into limited network sharing on 2G (GPRS) services, but these remain unconfirmed.

Meanwhile, Africa has seen a real boost this year, with Vodafone finally acquiring a majority interest in Vodacom South Africa from Telkom, as we discussed earlier this year in Consolidation hits Rainbow Nations telecom sector; Vodacom is now the flagship Vodafone brand in sub-Saharan Africa & has recently listed on the Johannesburg Stock Exchange. Another hit in this region is Vodafone’s 40% majority holding in Kenya’s Safaricom. Jointly the two companies launched the mobile payment platform M-Pesa back in 2007 & it has gome through a number of modifications & upgrades since then, winning a United Nations award along the way. The service has 5.75 million users signed up in Kenya & now that it has been proved & tested, look to Vodafone to launch M-Pesa in a number of new regions in Africa, such as Nigeria, Ghana & South Africa. An interesting video on Safaricom & M-Pesa can be viewed here : Michael Joseph

Vodafone’s controversial investment in Essar , seems to be paying off handsomely, as the Indian carrier now operates in all 26 mobile circles across the sub-continet. Service revenues jumped by 23% with the subscriber base leaping 56%, or  by 77 million subscribers in the last year. Vodafone will also be launching M-Pesa in India this year & it is thought that up to 17% of the subscriber base will ustilese the m-payment system. Vodafone-Essar recently applied & was granted both a national Internet Service Provider & National Long Distance licences, from the Indian Government, as expectations run high on the “last mile” being finally opened. The NLD licence will have an immediate effect, as Vodafone will now be able to backhaul its own national STD voice traffic & not have to rely on local carriers, which will be a welcome development since mobile voice terminations have fallen by 5% in India in the last year.

In Asia Pacific, there is only one big story & that is the merging of Vodafone Australia & Hutchinson Whampoa’s 3 in order to create a realistic competitor to government owned Telstra. The new Vodafone-Hutchinson Australia is a 50-50 JV, which will carry the Vodafone brand & now has a combined cutomer base of just over 6 million users. Vodafone will be looking to leverage its Vodafone Live! content platform here & significant cost savings on network (roaming charges) can be expected, the combined networks now have 98% coverage of metropolitan areas across the country. Vodafone will also receive a deferred payment of AU$500 million from Hutchison-Whampoa, to reflect the difference in the joint business assets (network).

So all in all, a home run for Vodafone in its first quarter of the current financial year. Considering the global economic environment, I feel that this is a great performance (although possibly helped along by currency rates) & that if the management team can keep a firm grip on the operating companies, Vodafone should be one of the strongest performing telecoms companies for 2009-2010. Continued expansion in both India & Africa, along with the introduction of services such as M-Pesa will attract & hold valuable customers. I’m long on the ADR, having bought in last week at $18.68 & am looking for it to exceed $23.50 within three months.

Today some humour & a guest post from Josh Brown from Reformed Broker …. thanks to Josh for letting us post, you can follow him on Twitter

It may be time to hold auditions to find a replacement for Russia in the BRIC countries.

The other day, the New York Times dropped this delightful little nugget on those believing that Russia is a suitable place to invest:

Russia’s Kemerovo region has notified ArcelorMittal that it will seize two of the world’s largest steel maker’s mines if production levels do not increase, the Siberian region’s government said in a statement.  “If your team is not able to stabilize production at these facilities, then we propose that you hand them over without compensation.”

Nice.  The whole BRIC (Brazil, Russia, India, China) theme may be in need of a makeover as it turns out that the former Soviet Republic is still very much up to it’s old KGB-era strong man routine.

The question becomes, what country could replace Russia that’s got the growth and demographic bona fides but a more conducive business climate for investment?

Let’s hold some auditions, American Idol-style, and see how other emerging economies stack up for membership:

Turkey

Randy: I like what I’m seeing out of Turkey’s National-100 index, a 10.5% advance year-to-date, y’all.  I’d say yes.

Simon: This country has a population of 71 million, two thirds of which are aged 15 to 64…that’s an awful lot of productive workers.

Paula: Yeah but guys, Turkey’s economy is only supposed to show flat growth in 2010.  I’m sorry Turkey, I think you’re great…just not for this competition.

South Africa

Paula: Here’s a perfect example of an exciting country, with a $280 billion economy and booming mineral exports.

Randy: Yes, but a lot of those exports are non-industrial diamonds and gold, not a lot of practical uses for what South Africa produces, man.

Simon: I have to be honest and say that that was one of the most dreadful auditions I’ve ever heard.  And for a supposedly emerging market, the Johannesburg Securities Exchange has barely recovered this year, up only 4% or so.  I’m sorry, South Africa, it’s a No.

Singapore

Randy: Singapore looks like the Real Deal right about now, the Straits Times Index is already up 35% on the year and shows no signs of quitting.  GDP growth for next year is looking like 7 and change percent.

Paula: And didn’t Jimmy Rogers sell his Manhattan townhouse and relocate his whole family there?

Simon: I’m sorry, but I don’t think so.  Singapore is as tied to China as you get, they do about 90 billion a year worth of trade together and have longstanding agreements in place that basically make the two economies inseparable.  I’m going to have to pass on this, we already have enough Chinese representation in BRIC.

Dubai

Randy: I gotta keep it real with this one, Dog.  Aren’t we talking about an economy that’s basically 100% tied to high oil prices?

Simon: I completely agree with Randy, minus some steel exports, that’s exactly like Russia, which we’re trying to replace in BRIC, the last thing we want to do is add it’s mirror image.

Paula: You guys have the Dubai story all wrong, they’ve been redeploying the oil wealth to stimulate other parts of the economy, like the gold-plated Rolls Royce sector, for example.

Australia

Randy: Australia?  I thought this competition was for emerging markets only, y’all.  I know GDP growth for next year is estimated at 6%, but how old are you, Australia?

Paula: You gotta give it up to them, they have a fully developed economy, yet they’re the key supply line to some of the growthiest economies in Asia.  Wait, isgrowthiest a real word?

Simon: For me, it’s a yes.  If we refer to Brazil as the Commodities Supermarketto Chinese growth, then Australia is the Commodities Convenience Store, chock full of metals and minerals, yet right down the street.  And Paula, you should read a book one day.

Peru

Paula:  Look, we all know that the entire economy of Peru is just $127 billion and that’s like 7% of the economy of Brazil.  But I think Peru is going to broaden out.  Just because it doesn’t have a huge population, doesn’t mean it can’t become a big investment theme.  I say Peru deserves a chance.

Randy: It may be small, but it’s growing!  I’m feelin’ the growth!  10% GDP!  Peru, you’re on fire, Dog.  For me it’s a Yes.

Simon: Not to mention a 75% return for the IGBVL stock market so far in 2009, Peru is the very definition of hot.  Congratulations Peru, you’re through to the next round.

Randy: You’re going to Hollywood, Dog!

___

Peru exits ballroom with yellow sheet of paper, vigorously hugs Ryan Seacrestand let’s out celebratory yelp.  Assorted family members wipe tears from eyes.  Cut to Coke commercial.