By Christopher M. Wright

NAME: Marvin Zonis Title: Professor Emeritus at the Graduate School of Business at the University of Chicago and Principal, Marvin Zonis + Associates, Inc. BORN: 1936 EXPERIENCE: Zonis received a degree from Yale and a doctorate in political science from MIT. He also studied at the Harvard Business School. He serves on the board of directors of CNA Financial and the board of advisors of Syntek. He has written for the Financial Times, the New York Times, and the International Herald Tribune. He has appeared on network news shows including “Nightline,” “Larry King Live,” and “National Public Radio.” His books include “The Kimchi Matters,” “The East European Business Opportunity,” “Majestic Failure: The Fall of the Shah” and “The Political Elite of Iran.”

A new trend is surfacing in the real estate investment industry: emerging markets are receiving attention from some REIT executives and many investors across the U.S. and around the world. Marvin Zonis, leading risk expert, has more than 40 years of experience studying emerging markets and has co-authored a book outlining every third world investment hotspot of the last 50 years. Whether it’s turmoil in Pakistan or unexpected collapse in Indonesia, “The Kimchi Matters” brims with general lessons for those who want to put money into emerging markets.

Portfolio recently sat down with Zonis to collect his thoughts on these countries, how risk should be handled, where the next financial crisis might originate and the endpoint of globalization.

Portfolio: What is in store for REIT and real estate investors who have expanded their portfolios internationally into developed countries, but have yet to dip a toe into emerging markets? How does the risk profile of emerging markets differ from developed countries?
Zonis: There are vast differences among emerging markets. Sixty to 70 of the 120 emerging markets in the world lack worthwhile investment opportunities. These countries have political instability or are unable to generate economic development, or both.

Property investors who are new entrants into emerging markets, such as Thailand or Brazil, Russia, India and China (BRIC), should have a joint venture partner. It’s tough when one doesn’t have familiarity with the country’s tax structure, which can be punitive or used as a political weapon to diminish competition from foreigners. You need contacts with the right people.

Portfolio: What are some of the key factors in your country risk analysis?
Zonis: I used to be very worried about corruption. However, after seeing the prosperity that India and China have generated despite being highly corrupt societies, I’m not sure it’s as important as I previously thought.

However, I believe there is power of the state, which is necessary in order to have a successful economy. For instance, in the 1990s, Russia was very weak and there was chaos. However, Russia is powerful today, but it doesn’t have a level playing field, making Kremlin insiders the winners in certain sectors of the economy. Political power—not economics—determines the fate of many businesses.

The question is whether the state enforces the rules of the game equitably or inequitably. One needs to watch for a country that favors one ethnic group or religion over another, or favors natives over foreigners.

Portfolio: What do you advise clients when assessing risk factors in different countries?
Zonis: You can’t avoid all risk. You want a healthy risk-reward ratio. For instance, if you’re taking higher risk, you expect a higher rate of return. It also depends on the client’s risk appetite. When there’s political risk, for example, make a reasonable judgment about it and assess the expected rewards.

Portfolio: There currently is a debate among international investors as to whether emerging markets are fragile or resilient. Where do you stand?
Zonis: We’re entering a period of increased economic and political fragility. There are two important factors that have contributed to the point of view that emerging markets are more resilient than they were 10 years ago, but these factors may be changing.

The first is the large U.S. current account deficit. We buy tremendous amounts of goods and raw materials from emerging markets, which stimulates their economies. The current account deficit will diminish more when the U.S. economy goes into a recession. This will alleviate financial imbalances in the world that are unsustainable.

The second factor is the boom in commodity prices. Gold, oil, platinum, copper and molybdenum prices have been tremendously high. Some emerging markets have prospered in recent years from exporting a lot to the U.S., selling a lot of raw materials at high prices, or both. Additionally, the U.S. dollar has been weakening, placing downward pressure on foreign exports.

Part of emerging market resiliency in recent years can be attributed to high commodity prices. Yet, commodity prices are inherently unstable. If U.S. consumption and world commodity prices deteriorate simultaneously, there is possible concern in emerging markets with cascading effects around the world. My own feeling is that the commodity cycle has further to run.

Portfolio: Your book does not discuss real estate specifically. Can you share an investment decision story from a real estate client?
Zonis: One of my clients predicted a huge boom in real estate in the Moscow and St. Petersburg apartment sector because the housing stock was so miserable and wealth was accumulating as oil revenues rose. However, real estate had already become an asset, and people were paying prices that bore no relation to potential financial returns. Speculation was already rampant. That’s not uncommon where there are export or commodity booms. There was no reasonable risk-reward tradeoff and the client decided not to invest.

Portfolio: Do you have your eye on a particular region right now?
Zonis: Yes, China. The Beijing Olympics will take place there in August 2008. China views the games as its entry onto the world stage as a power among nations economically, technologically and militarily. The entire Chinese leadership is focused on that event. They are taking every step to make sure it goes smoothly. As a result, there will be no internal unrest in China in 2008.

China is one of those Asian economies where domestic consumption is low. Private consumption in China is about 38 percent of GDP. For reference, it’s 70 percent in the United States. Fixed capital investment in China, which is driving the country’s economy, is 45 percent or 50 percent of GDP. In America, it’s 18 percent. This fixed capital investment translates into 1,500 steel mills with more capacity than the U.S., Europe and Japan combined.

The Chinese economy is very vulnerable, and I don’t think it can continue such growth without a severe setback. How severe I don’t know, but I think there will be political instability, which will be significant. The effects won’t be confined to China. If you look at other Asian countries, such as Japan, Malaysia, South Korea and Taiwan, their biggest export customer is China.

Portfolio: What is the endpoint of globalization? Will it ever be “one world, one system?”
Zonis: We have already seen a number of languages and cultures disappear. Industrialization has increasingly standardized the common life experience for people around the world. They go to work all day in an office or factory, see their family at night, go to bed early because they have to work the next day, and so forth. That had not always been true. In 500 years, there will be more melding of the world’s cultures in some important ways. A synthesis already exists, and it will continue to deepen.