Iron Curtain: The Other Eastern Opportunity

by Joshua Enomoto, Founder of and Contributor

When it comes to exotic emerging market opportunities, China usually marks the top of the list for many American and Western investors. After all, very few nations can compete with the Asian giant’s labor and manufacturing infrastructure, and even with a rising Yuan, many companies continue to be lured by China’s relative cost savings. This remains true, even after a recent record exodus of capital away from the emerging markets, as investors begin to fear a plateauing of returns. At some point, however, even a robust economy like China will eventually have to consolidate their past gains: once an emerging market has “emerged,” the threshold margin of economic growth becomes tighter and more competitive. It can be argued that formerly inexpensive names within the emerging markets are no longer value-plays and many are speculating the end of an era.
While China and the rest of the BRICS nations may be due for a serious bout of volatility, there is one sector that may still offer plenty of returns on the cheap: Eastern Europe. The countries that once were secluded behind the Iron Curtain have seen an enormous turnaround over the past twenty-odd years, yet this region continues to remain a mystery for many. Perhaps that is why the investment valuation in Eastern Europe has not quite kept pace with its BRICS counterparts. Nevertheless, there are several reasons why investors should remain bullish towards this sector despite recent downside in other emerging markets.
First, Eastern European countries tend to have a dual currency circulation, with the Euro running side-by-side with native monies. However, because the domestic currency is still the official one, the central bank has a certain level of autonomy that is not afforded to full members of the European Union. For example, a little known fact is that Poland has weathered the financial crisis of 2008 better than any other European country due to the massive deprecation of the Zloty:
The above chart references data provided by the International Monetary Fund and was published by The Atlantic, which clearly shows Poland’s ability to rapidly recover from the financial crisis relative to other nations. Interestingly enough, in second place is Slovakia, another Eastern European country.
Another reason why investors should consider Eastern Europe is due to the stunting of development that has come about as a result of Soviet occupation. Even in Germany, many regions in the eastern section of the country are far more “backwards” than their western counterparts. This creates an opportunity for huge growth margins, as early moves often yield the highest percentage gains.
Unfortunately, there are very few ways to invest in Eastern Europe and the options that are available only offer thinly traded funds. However, there is one particular country that stands out from the rest: Poland.
The above chart is an 8-month snapshot of the iShares MSCI Poland Fund, or ticker symbol EPOL. One defining feature of this fund is that year-to-date, it is down nearly 18%, with much of the downside due to the extreme volatility and outflow we have seen from emerging market names. However, the price action does appear to be stabilizing, and with the RSI indicating an oversold condition, the current valuation is an attractive one.
Now let’s take a look at a 3-year chart:
EPOL admittedly does run the risk of re-testing the $20 level, where strong horizontal support lies. That means the price could fall an additional 18% from where it currently stands, so conservative investors may want to feel this market out. While it is technically considered oversold, momentum has been trending negative, most likely a by-product of recent instability in the European region. However, once the kinks have been worked out, we could see strong gains in the future.
Ultimately, Eastern Europe may prove to be a winner: not many eyes are focused on it (always a good thing for a contrarian indicator), a lot of volatility has been priced into the market, and a relative level of autonomy regarding central banking policies makes Eastern European countries more agile than their western neighbors, a trait that is far more desirable given these uncertain times.