Daily Gains Letter

Three Ways to Profit from the Fall of Emerging Markets

By for Daily Gains Letter |

Three Ways to Profit from the Fall of Emerging MarketsThe key stock indices have gained momentum to the upside since the beginning of the year. The most quoted indices like the S&P 500 and the Dow Jones Industrial Average are up more than 12% and are bucking the trend.

Unfortunately, as this is happening, commodity prices, especially the industrial metal prices, are facing severe headwinds, having come down significantly. Take a look at the chart below of the Dow Jones-UBS Industrial Metals Index, which tracks the price performance of industrial metals like zinc, aluminum, and copper:

Dow Jones-UBS Industrial Metals Chart

Chart courtesy of www.StockCharts.com

Since the beginning of the year, this index has been trending downward, having shed more than 12%.

Copper, an industrial metal used in construction, technology, and automobiles, has been witnessing a slump in demand. The stockpiles of the metal tracked by the London Metals Exchange are up 91% this year alone. (Source: Kolesnikova, M., “Copper Swings Between Advances and Declines Amid Supply Concern,” Bloomberg, June 5, 2013.) Morgan Stanley (NYSE/MS) expects production of copper to be greater than the demand for the metal in 2013; this would be the first time in four years. (Source: Richter, J., et al., “Goldman Sees Bull Run Over as Returns Trail Stocks: Commodities,” Bloomberg, June 6, 2013.)

The reason behind the sell-off in the industrial metals is because of concerns that the emerging markets are slowing down. Therefore, the industrial metals aren’t as hot as they were a few years back.

Look at China, for example: in 2012, the Chinese economy grew at the pace of 7.8%—the slowest since 1999. In the first quarter of this year, the second-biggest economy in the world grew at the rate of 7.7%. (Source: “Activity in China’s services sector expanded in May but at a pace little changed from the month before, the latest sign that the world’s No. 2 economy is struggling to regain momentum,” Reuters, June 4, 2013.)

Unfortunately, the misery doesn’t end there: India, another major emerging market economy, grew at the rate of five percent for the government’s fiscal year (ended March 31). This was the slowest growth the country has experienced in a decade. (Source: “India’s annual economic growth slows to 5 percent, the slowest in a decade,” Washington Post, May 31.) In the past 10 years, the country has grown at an average rate of eight percent per year.

While India and China are two of the main countries suffering from an economic slowdown, other nations are seeing the same; South Korea, for example, has been warning about an economic slowdown ahead and slashed its interest rates.

With all this said, how does an investor make a profit from a situation like this?

Investors can profit in at least three different ways as the emerging markets move towards a period of slower growth.

One way they can profit is through declining industrial metal prices. Investors may want to look at an exchange-traded fund (ETF) like the ProShares UltraShort DJ-UBS Commodity (NYSEArca/CMD) ETF. This ETF provides investors twice the inverse return of the Dow Jones-UBS Commodity Index, meaning that it will rise two percent if the underlying index declines by one percent.

Note that with ETFs like ProShares UltraShort DJ-UBS Commodity, investors need to consider their exposure. For example, industrial metals account for 15.68% of the Dow Jones-UBS Commodity Index. (Source: “ProShares ETFs: UltraShort DJ-UBS Commodity – Index/Benchmark,” ProShares web site, last accessed June 7, 2013.)

Another way investors can profit is through investments like the ProShares Short MSCI Emerging Markets (NYSEArca/EUM) ETF. It lets investors profit as the emerging markets decline.

And last, but not least, investors can profit by narrowing their focus to a certain emerging market economy. For example, if an investor wants to profit from the slowdown in China, they may want to look at ProShares Short FTSE China 25 (NYSEArca/YXI). It lets investors short the top 25 stocks in the Chinese stock market.

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