Where are we now in Marc Faber's emerging market business cycle?

Dr. Faber sets out the criteria defining each period of the emerging market business cycle in a brilliant and well drawn analysis that anyone can appreciate who lives or works in an emerging market economy.

Phase three is 'The Boom' and he gives the Middle East in 1980 as a typical example. This picture should also be familiar to anyone living in the Gulf States over the past couple of years.

He highlights this phase as typified by: inflationary pressures and supply bottlenecks; a sudden and unexpected fall in stock prices; rising credit and leverage in the system; frequently one of the world's tallest buildings is about to be completed and a new airport is completed and another in the planning stages; stocks and real estate become topics of conversation everywhere; foreign money inflows are highest and acquisitions boom.

But the next phase Dr. Faber calls 'Downcycle Doubts' and this has some very different characteristics.

Downcycle Doubts

Phase four is marked by a slowing of credit growth and a deterioration of corporate profits. Excess capacity is a problem though seen as a temporary phenomenon. Stocks may stage a recovery from the phase three sell-off with foreigners who missed out before the main buyers.

But some financial stress starts to become evident and non-performing loans begin to emerge. Apartments are now too expensive for locals and are mainly sold to foreigners. Commercial property rents reach a peak and tourism arrival growth slows. However, brokers continue to publish optimistic reports.

Is the Middle East not now moving out of 'The Boom' period and into something closer to the phase four? Such modeling can never be precise and the length of each phase is very hard to predict.

Yet that takes us on to the next phases of the cycle, phase five and six: 'Realisation' and 'Final Capitulation'. These are the much harder times seen most recently in the Asian Financial Crisis, for example. Dr. Faber describes the gloom of phase six as a mirror of the optimism of phase three. The good news is that the cycle then starts all over again.

In the context of the Middle East the oil price is clearly the driving force behind the economic cycle. But the emerging market business cycle is one that has been observed in many markets under many different circumstances and those who believe 'it is different this time' are usually the most prominent casualties in the downturn.

Oil price slump

It is of course arguable that the oil price will recover from its downturn since last July's peak and sustain phase three for sometime longer. Yet some signs of phase four are beginning to emerge with some big players looking to shift out of real estate projects for the first time and auto sales leveling off.

Bank profits are also not growing as fast and the loans outstanding from the recent Arabian stock market crash could turn bad. And yes brokers are now publishing optimistic reports trying to tempt buyers back into the stock market.

Of course this time it really could all turn out to be different. But buy a copy of Dr. Faber's excellent book is you want to study this in more detail.