In our conversations with clients, we’ve found that investors typically see emerging markets as a higher-risk, capital growth element of their portfolio. As developing economies, they hope for higher capital returns from companies located in these markets compared to their developed-world counterparts.
Capital growth is not the only source of return that should be considered, though. We are seeing an increasing number of EM companies paying dividends to shareholders as corporate cashflow improves. Given the dividend cuts we’ve seen in the UK over the last two years, it makes sense to broaden our horizons in the search for income.
This isn’t just the latest fad, either. Several studies have looked at dividend payments from companies in the MSCI EM Index over the years and there is a definite trend of companies growing their dividends, as well as more starting to pay out. For example, Mexican telecoms company Telmex has a 12-month dividend yield of more than 5%; South Africa's African Bank is a similar story.
There’s another benefit to taking income from EM stocks too: It helps to smooth out the volatility of returns over the long run and helps you stomach the ups and downs that go hand-in-hand with investing in emerging markets. So such funds shouldn’t be pigeon-holed for just those seeking income--they have the potential to offer lower volatility for the more risk-conscious investors.
Let’s look at an example. JPMorgan has a long-established Emerging Markets OEIC, which is rated Superior by Morningstar. Returns haven’t been smooth but long-term investors have been rewarded for the bumpy ride. The team behind this fund also runs two closed-end funds. JPMorgan Emerging Markets (JMG) is a stalwart of the AIC Global Emerging Market sector, dating back to 1991 and comprising some 15% of total assets in that sector. It’s run by the same team that’s behind the OEIC, using the same process. We can even see that the investment trust has outperformed the OEIC over the long run, but that’s a separate story in itself. (For more on the performances of OEICs versus their closed-end cousins, read Who's Emerging From the Shadows?)
In July 2010, JPMorgan launched a new closed-end fund--JPMorgan Global Emerging Markets Income Trust (JEMI). Isn’t this just another version of the existing funds, I hear you say? Yes, and no.
I say yes, because it’s the same team and the same process. But whereas for the existing funds the team uses earnings to filter the results from their initial stock screens, for the GEM Income fund they filter first on dividends. So they haven’t had to create an entire new process to run this fund; instead, the analysts have simply embraced a new way to interpret the screens they’re already running.
So you could argue the analysts have broadened their horizons in their search for the best ideas. The two stock examples we cited above feature in the GEM Income trust.
The case for total return (and here I mean returns from both capital and income) is well documented. But that's not the only point in favour of a GEM Income fund. At Morningstar we like closed-end funds for a number of reasons and you can read more about these by visiting our Closed-end Funds page and reading the CEF Education section.
The moral of the story is, just as the analysts at JPM have embraced new ways of finding the right stocks for their funds, so too should we as investors embrace new ways of fulfilling our needs for income from our portfolios.
