July 11, 2005
A Collounsbury Take on Frontier Investing
This was written for comments re investing in Iraq, thought I would reproduce as I rather like it on some level:
That aside, 30 percent is a quality return, if and when you realise it. Thin illiquid markets can often show "quality returns" without being able to deliver the liquidity to realise. [In short, a market under buying pressure but little liquidity may appear to be delivering healthy returns, but when it comes sales time to realise, the same mechanics can make it impossible to sell without serious discounts, i.e. price decline - liquidity is the key, else one is trappe, many an emerging markets investor learned that in the gogo years of the emerging markets stock market boom of the mid-1990s.]
Further, electronic trading systems [noted in relationship with Iraq] have never stopped front running, playing with orders and the like. They make it a slight bit harder, but w/o oversight you have false confidence. Among the many things you need is delivery against payment with an operative guarantee system (still doesn't remove the risk as I have seen personally, but helps), and one has to be sure it is operative.
But what the fuck do I know, I've only seen it done in these markets under an electronic trading platform that was and is state of the art.
Finally on the underlying peg discussion, Frankel's theoretical proposal [in an article in the Financial Times suggesting a basked peg with roughly 1/3 Euro, 1/3 dollar, 1/3 weighted price of oil] is an interesting one as a variation on a crawling basket peg, although your online discussion takes his phrase rather far too literally in a classic case of seeking justification for a desired result. The obvious item, rather than the appreciation issue itself or false analogies to post-WW II Germany, to analyze is what a large appreciation means to the Iraqi economy. Any large, short term currency move is a shock to the real economy and few real world policy makers generally avoid such for very good reasons. In Iraq the play off is between current cost of consumption versus current income. That breaks out between consumption of domestic goods and that of tradeables - imports - although obviously some domestic goods depend on imported inputs. Immediately exporters lose the X percent of income, consumers of imports gain X percent of buying pozer, an implicit subsidy to consumption of imports and an implicit tax on domestic production that competes with imports. In short a penalty to the domestic producer economy ex-hydrocarbons.
Second of course, is the impact on real investment (in explicit contrast to speculative hot money such as yours). An X percent appreciation due to a revaluation on a peg immediately raises the cost faced by foreign currency investors for Iraqi assets, with no change in potential returns in the near term, insofar as no economic fundamentals, ex the penalty to real productive economy that is import competing (but with a boost to productive economy that has imported inputs, to the degree they are import factors and cost drivers). It is an effect a penalty to incoming money - as say for example the private equity fund I have consulted with which has USD 70 million in hard currency raised. [I of course did not touch on the disruptive effects of serious real price deflation]
Now, obviously Iraqi policy makers should be looking at these real economy choices, and not things that make hot money speculators happy. It may be that they will decide that subsidising current consumption of imports and current capital imports is more important than creating a stable real economic environment that is well-priced in regards to real assets and allows export competivity. Choosing near term "gifts" to urban consumers, who are heavier consumers of imported goods and services (running from food to white goods) than others typically in this kind of environment, and subsidising capital imports to the detriment of labour competivity is a frequent choice in these economies - certainly Egypt managed to do this ever so brilliantly over the last 30 years with a "strong pound" regime partially backed by its nat gaz and petrol exports.
I certainly hope they don't - but then to you this is merely being "negative." Contemptible speculation aside, I favour the real market and policies to grow it.
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Mutual funds look beyond chaos in Iraq
Friday, March 17, 2006
By Jennifer Levitz, The Wall Street Journal
Considering the strife bordering on civil war, this may not seem like the best time for mutual funds to put money into Iraq.
But some are doing just that. Looking for high yields -- and confident that oil reserves will be there to repay the debt -- mutual funds are among the investors quietly buying small chunks of about $2.8 billion in bonds issued by the Iraqi government in January as part of its restructuring of debts left by Saddam Hussein.
T. Rowe Price Group Inc., based in Baltimore, says about $16 million of its $558 million Emerging Market Bond Fund is invested in the new Iraqi bonds. Standish Mellon Asset Management Co., of Boston, says it has about $2 million in Iraqi bonds, spread out among some of its emerging-market mutual funds. It declined to identify the funds but said they had a total of $400 million in assets.
ING Group and Merrill Lynch & Co. recently showed up on a brokers-only computer network as bidders for the Iraqi bonds, one person with access to the system says. It couldn't be learned whether the firms were interested as buyers for their own accounts or for customers. Merrill and ING said they couldn't comment on interest in Iraq.
John Peta, a portfolio manager for emerging-market strategies at Standish Mellon, isn't surprised that the topic is touchy. "Given what's going on in Iraq, people don't want to fess up to owning" Iraqi debt, he says.
Interest in Iraq is a sign of how hungry some fund managers have become for high-yielding issues that can satisfy investors in emerging-markets bonds, which have been on a hot streak. During the past three years, diversified emerging-market funds have earned an average 36 percent annual return, according to Chicago fund-research firm Morningstar Inc. Investors put $10.1 billion into emerging-market bond funds in 2005, more than double the amount in 2003, according to Emerging Portfolio Fund Research, of Cambridge, Mass.
READ THE REST:
Posted by: KonaCall at March 19, 2006 12:44 PM
I find it amazing that some people are such skeptics that they cannot see the forest because of all the trees. Iraq will one day be one of the wealthiest countries in the middle east and perhaps the world. If you think it is a fools game to invest in Iraq then you are the fool.
Posted by: KonaCall at March 19, 2006 12:48 PM
"Iraq will one day be one of the wealthiest countries in the middle east and perhaps the world. If you think it is a fools game to invest in Iraq then you are the fool."
The point in the first sentence may be true. But the second does not follow.
Always remember this time-honored adage: "the [financial] market can remain irrational longer than you can remain solvent."
If you invested in oil in 1850 or so knowing it would be the lifeblood of civilization -- correctly and presciently -- you still might have been broke by the time your kids inherited in say 1885.
Nasdaq logic doesnt always pay even in the long-run at times.
And as long as the number 0 exists, and the concept of default, there's always a looming downside.
Iraq has a lot of potential, human and mineral. So did the steam engine when it was prototypes in like 300 BC. When potential goes actual and starts paying dividends, for once Keynes is right -- in the long run, we're all dead.
For now Iraq and its recovery ahave no "horizon". They are junk bonds with very high risk.
(Disclaimer: I hold no long or short positions in anything Iraqi.)
Posted by: matthew hogan at March 19, 2006 04:46 PM
Well, some spam to clear out before a comment.
As to the comment, Iraq is certianly not going to be one of the richest countries in the world, nor in the Middle East. Not in any time frame that makes sense for investments. Of course what a country does macro level and what an investment does micro level are two seperate questions.
I think it is a fools game for the little retial Iraqi dinar speculars to be speculating in currency. Thus the comment. Your lack of literacy notwithstanding. Amusing, though, this attracted comment nearly a year late.
Posted by: collounsbury at March 19, 2006 05:27 PM
I'm going to be honest with you, I log on to your website at least once every week or two to read your column, I find the site interesting, I suppose that I am drawn towards people who are smarter than I am as I like to learn about them and what they think.
I lost my business last year, I had a garage business which also did car valeting and Rolls Royce hire, we had two beautiful Rolls Royce cars and two new Mercedes e class, these vehicles were used mainly for wedding hire, and we did ok, we had a very good business with lots of cashflow.
Unfortunatly the local council wanted the land for building flats on and we had to get out, so nine and a half years work went down the drain.
The council could not give a toss about me or my family, luckily we were cash rich, we owned everything, sold the cars, I even had a yacht, sold that as well, got to admit I did not enjoy that part, I loved my boat.
I was looking on IIF today and noticed that you had posted, I am glad you did, I have read all of your posts on that site, I am and was a member when you first started posting, I have enjoyed reading your point of view.
I have purchased 30.5 million iraq dinar, do you realy think that I have made a mistake doing this, do you think I should sell? your opoinion would be welcome even if you said I am an idiot for buying these dinars.
Things do seem to be moving in the right direction over there, I have friends in the Royal marines who are on their 4th tour over there, they seem to think that Iraq is booming, with new infrastructure, new buildings going up all over the place. After R&R when they go back to Iraq, they always say how quickly Iraq is moving forward.
On a personal note, I am sorry you are ill, I lost my mother in 96, same sort of thing.
Although we dont know each other I wish you well.
See you in another life, maybe.
Actualy you dont have to reply, I think I know what the answer will be.....sell..sell....sell
Posted by: IAN MACDONALD. at May 11, 2006 05:37 PM
Well, I think generally that speculating on foreign currency is not something that small-timers who are not extremely well-versed in FX.
FX is a hard market, not something to get involved in without a lot of skill.
Now, you've already put your money in.
That, frankly, I think, was an error.
But one thing you learn in finance, one has to not only not cry over spilled milk, one should not price it in to your decision going forward.
My opinion is you have to adopt a realistic view on the timeline for Iraq - it will appreciate in the long term barring political disaster, but in the long term we're all dead.
If you can afford to hold, say for ten years, I would say do so. Why not at this point?
If you can't - well, one should think about cutting one's losses and unloading.
More thoughts later, but oddly my advice is not sell, sell - only that one needs to have a cold and very unsentimental approach to the issue.
One reason I was so mean (besides it being my nature i suppose) is that the site is all emotion-driven "we only can accept rah-rah news" driven.
No matter what one is playing with in financial sector, when one starts getting sentimental, one gets fucked.
But this is an interesting area of research in "behavioural finance" - it appears people tend to make consistent errors (from an analytical point of view) in their management and response to own portfolio developments.
Posted by: The Lounsbury at May 11, 2006 08:16 PM
Returning to this, on the soldiers, while I have the utmost respect for the RM, frankly it is rare to meet soldiers with a decent sense of economics.
That being said, the problem with the analysis is that the economy and the currency may not necessarily strengthen together - there's certainly a relationship, but it's not necessirly direct.
Effectively the core error made at the site was to try to approach understanding the currency value via the GDP, when in fact one needs to think about the currency as a product which has substitutes (such as dollars).
It is entirely possible for the real economy in regions to grow (and even nationally), but the currency to lose relative value due to loss of confidence or oversupply relative to demand (i.e. printing money), etc.
Now, the Iraqi central bank seems to be behaving quite responsibly and doing a yoeman job of managing the currency under very, very difficult circumstances. However, I view it as well nigh impossible for the currency to substantially appreciate in the next 5 years.
My other observation is that it is nothing short of madness to hold physical currency, and terribly naive. The risk run that one gets stuck with bills that are unexchangeable or in a nightmare scenario where say the Iraqi government changes the currency and requires in country exchange.
All things being equal I would say if one is going to hold Iraqi currency that it would be better to hold it in a non-physical form (i.e. bank account) - although of course that has its own risks like bank failure.
Nevertheless for exposure to dinar risk, I would personally prefer to hold an asset like dinar denominated Iraqi bonds that have a core return.
Regardless, as you have an existing position with dinar exposure, like I said supra, I wouldn't say "dump it" but optimise if you have a tolerance for the possible down-side.
Posted by: The Lounsbury at May 12, 2006 01:22 AM