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Summer of the underdogs

Western corporate governance scandals have prompted a flight to quality in emerging markets that are seen to be cleaning up their acts. But investors need to keep their wits about them: in some cases corporate governance may only have improved from "horrible" to "bad".

It has been a summer of upsets. Once proud footballing nations such as France, Italy, and Spain have been humbled in the World Cup by developing countries such as South Korea and Senegal. Something similar is occurring in finance. Once proud financial centres such as New York, London and Paris are suffering stock market collapses, with the S&P500 index falling in June to post-September 11 levels of below 1000. The Nasdaq has fallen 26% so far this year. The dollar has also fallen to two-year lows. US investors - scared by corporate governance concerns, as well as the size of the US trade deficit - are diversifying out of US and other G-7 stocks.

By contrast, emerging markets - with a few exceptions - are enjoying a summer of amazing growth. The MSCI Emerging Markets Free Index grew by 18.8% in the six months to May. Companies that weren't underdogs so much as, well, dogs, have seen their share prices boom thanks in great part to perceived improvements in their corporate governance.

Crucially, this improvement hasn't been a matter of ethics but of survival.

Football is life - it's official.

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