Archive for AMIO

Iran; the neglected country effect

Posted in Emerging Markets with tags , , , , on March 5, 2009 by evd101

 By Erik L. van Dijk

Yesterday, March 4 2009, I spoke at the Emerging Markets Fund Forum in London. I spoke on behalf of our own firm and on behalf of AMIO, a non-governmental Iranian trade organization. Topic: ‘Will IR Iran realise its potential as one of the world’s largest frontier economies?”. It is strange to see how my partly coincidental, and partly logical association with this country has moved me from a situation in which people didn’t want to hear about it at all, to it now being probably the hottest niche area within our business model.

The association was partly coincidental in that I met the AMIO president at a conference of the World Chess Federation, FIDE. Dr. Madahi is president of the Iranian Chess Federation as well, and when we met I was the representative of the Dutch Chess Federation. It is always good to meet face-to-face and understand what moves the people involved with specific matters. At first we discussed chess, but when dr Madahi explained what AMIO stood for it was clear that our business contact would evolve further. AMIO = Agriculture, Industry and Mining Organization is a kind of Chamber of Commerce for the non-energy sector of Iran. From our side, the interest in various countries around the world and their investment potential was directly related to the asset allocation work that goes back to my cooperation with Noble Prize laureate Dr Harry Markowitz. I think that we basically did two things right during the last 10 years when working on the approach: 1) Its optimization and risk management framework was an improvement compared to the old Markowitz work; and 2) being the old academic I was, I went through the toil and trouble to add basically all countries we could get data for. So now we have a system with almost 100 countries included, based on a proven approach. With respect to the latter, I refer the reader to the CFA Webcast done by Seb Page of State Street in cooperation with MIT professor Mark Kritzman. It is always better when others explain something that you did, especially when they consider it one of the better things around in this area. And not just that: Page did a tremendous job in making something mathematical perfectly understandable for decision takers and other interested readers without strong econometric background. Harry and I wouldn’t probably be capable of cutting the math as much as Page and Kritzman did.

Now, back to Iran and Emerging Markets in general. Initially, around the turn of the century, people frowned or laughed asking us why we included so many countries. Wasn’t it true that liquidity was only large enough in let’s say the first 10-15 or so? True, but times have changed (and so did oil prices). We have learned a lot about a new world order, in which BRIC nations would be the new catalysts for global growth because of their economic power on the one hand, and sovereign wealth funds (SWFs) that would finance the same world due to their oil or gas wealth on the other hand.

So, when the credit crisis hit hard, and Western leaders started to find a way of coping with it, they didn’t really seem to capture completely what was going on. Or they did, and didn’t want to tell us. The credit crisis was NOT a liquidity crisis at the global level. Globally, liquidity that once flew between Europe and the United States, has been transferred to selected Emerging Markets that did not automatically transfer money back to the Wall Street NYSE stock exchange.

That was what Europe and the US were doing in the past. People in Europe were careful, prudent, saving. In as far as they were investing, their stock markets were small, underdeveloped and their firms often not as strong as the US power houses. Result: the consumption excesses in the US were fed by a European money inflow to Wall Street. And whenever firms in Old Europe were struggling, there were always the big US market leaders providing them with capital or buying them so that this system could continue.

But, that was a stable system based on a market value oriented global economy. The US was 50 percent of that world, Europe and Japan some 35-40 percent and the Emerging economies completed things with 10-15 percent. The latter group was too small to have any major impact. Only exception was the 1971/72-1974/75 period when the world suffered from the first oil crisis and leaders in many western countries got scared that the Arabs would take over their world. But the fears vanished and we turned back to our old world order in which Europe and the US led the world.

At some point in time there were fears in the US that the Japanese would take over when the market value of the Japanese stock exchange turned almost as high as that of Wall Street. But it was exuberrance.  And again, we turned back to the old world order.

But it is really different this time around. The globalized world should be analyzed on the basis of GDP weights and not market capitalization weights. When looking at gross domestic product, we see that the US is closer to 33% than to 50%, like it is in the market cap weighted world. Europe – Japan is also about one-third of the GDP-weighed world. But the Emerging Markets are now also about that large. Obviously, when three areas are equally important economically, why then be surprised that they do have equal importance when trying to cope with the credit crisis as well? So far, Western leaders and finance ministers seem to be talking with and to each other, forgetting about all this. Maybe with one exception, Gordon Brown, who visited the Middle East because he understood that that is where (a large part of) the money is.

Whereas the Japanese basically didn’t have enough people to challenge the US, which meant that their labor productivity would have to grow to unsustainable levels, the Chinese in combination with other Emerging Markets do. Western populations – and probably in due time also the Chinese population itself – are not growing anymore in numbers. No, they are just growing older. This has led Goldman Sachs to come up with research that indicated a list of the so-called Next-11 countries with the most potential. Iran is one of them, with a population of 70 million and probably one of the lowest median ages around: 26.4 years for the average Iranian. In other words: the bulk of Iranians never lived in the old Shah period. What makes us think that the majority of people in a country that showed good growth rates and has free borders (Iranians can leave the country; or travel back, like many of the Iranians now living in the US or Europe do for holidays, family visits etc.) will be totally focused on shifting back to a regime similar to the one of the Shah? An Islamic Republic with the stability of IR Iran cannot be possible if your answer is: the majority. So I guess that if you stick to that answer, it has to be augmented into: the majority of Iranians abroad. If that is the case: fine with me!  A survey of Dutch pensionados living in Spain will probably also lead to the result that the bulk of them don’t like today’s Netherlands anymore.

But: if Iranians in Iran would think the same way, no way that the stability and growth record that they achieved after the first 10 years of the revolution when the country had to be rebuilt and it had to cope with the 8-year Iran-Iraq war, could have been achieved. Crime rates are relatively low, oil and gas income grew to enormous levels and the Tehran Stock Exchange did reasonably well during the crisis. So well, that Iran even succeeded in privatizing the majority of Telecom Iran (TCI) during 2008! TCI was immediately – by far- the largest individual firm on the Tehran Stock Exchange with a market cap weight of approximately 15 percent. An economy has to be very rich and strong when it can cope with an IPO of 15 percent of the size of the whole market in the middle of a credit crisis.

In my presentation yesterday, I also added a little demagogic exercise. What is the value of proven oil and gas reserves of Iran against today’s market prices? Answer: the whole population could take a 30 year holiday (all of them!) when we assume that the difference between today’s oil and gas prices (which are relatively low due to the crisis) and the average over the next 30 years is enough to pay for extraction and workers to do their jobs.

If we add to that that their banking system – based on Shariah – did not suffer from the leverage-driven problems faced by their Western counterparts, one can imagine that we are talking about a real potential powerhouse here. Now, when we don’t allow dialogue or trade with this powerhouse at a reasonable level, what will happen is the following:

1) We are hurting ourselves more than we hurt them;

2) If we think that Iran is associated with terrorism. do we really believe that the likelihood of this going down due to some embargo is high? This was a rhetoric question.

Wouldn’t it be much better to do business together and have dialogues? We need Iran, and they need us. The latter applies in areas like knowledge transfer and investment opportunities for their wealth funds just as much as for entrepreneurs that want to do business in the West. It is good to see that the Obama administration understands this. I am sure that Larry Summers, his chief economic advisor is at least to some part making this dialogue plea as well. And of course, some people might say that it is still all theory. Will Obama really change things? Is there any proof yet? I think there is: two days ago the Dutch financial news paper showed a picture of Akbar Hashemi Rafsanjani, the former president of Iran and today’s leader of the Assembly of Experts of the country, visited the Iraqi president Talabani in Baghdad! Iraq is still controled by the Americans. No way, that an Iranian leader as important as mister Rafsanjani could travel to Iraq to talk about helping in the restructuring of Iraq without some kind of harder indication that the Americans do want to work together and are serious about dialogue.

So here we are: the biggest frontier market of all, more or less neglected by investors. This leads to a tremendous opportunity. The Iranians are ready for it, and as my experience during the last year indicates, growing numbers of investors and other market specialists feel the same. Before people made me believe that my acquaintance and now association with AMIO was something ”obscure”, but now they consider it one of the main pilars in our business model.

So yes, the world is changing. With markets now at rock bottom level, what will probably happen is the following. The Chinese, the Arabs and the Persians will first buy themselves – either directly or indirectly – into Western stock markets. The amount of money that will flow to our markets will exceed traffic the other way round. But, with the opportunities in Iran, the Gulf States, Asia, Turkey and even Africa sooner or later the net balance will flow from here to there. That is the mid-term. In the long-term we should get ready for a new world order in which indeed China will take the lead.

I hope that my presentation on Iran will be of help to you. For the full presentation CLICK HERE.

Advertisements