Emerging markets have been popular with investors for a number of years based on solid economic fundamentals, booming demographics and growing domestic markets. They have reaped the fruits of a decade of reform and orthodox monetary and fiscal policies, initiated after the Asian crisis in 1998, and they have shown resilience at the height of the credit crisis in 2008. In the aftermath of the crisis, they have been prompt to raise interest rates in the face of rising inflation and strong credit growth and this has been helpful in preventing their economies from overheating.
Emerging markets have become an intricate part of global markets via trade and financial flows and this has made them more dependent on global growth and more sensitive to global news flow and risk appetite
In the face of this success, some economists started to believe that emerging markets would ‘decouple’ from developed markets. But more recent events have proven that this is not yet the case. Emerging markets have become an intricate part of global markets via trade and financial flows and this has made them more dependent on global growth and more sensitive to global news flow and risk appetite. Whilst investors are keen to point out the strength of the Chinese economy and its role as the regional engine of growth, it would be hard to ignore the degree to which some economies such as South Korea and Taiwan are still heavily reliant on exports to developed countries for economic growth.
Emerging markets are not immune to external shocks and the eurozone debt crisis, which has been escalating for the past two years. The crisis caused investors to repatriate their capital to the relative safety of their domestic markets – in particular in the summer of 2011 – and emerging market equities registered heavy losses as a result. The ongoing global slowdown has had a strong impact on emerging markets as well, and PMI figures, a measure of industrial activity, reflected this slowdown. Finally, China was another major source of concerns during most of 2012 as its housing market showed signs of ebullience and investors worried about a potential bubble and a hard landing, which could have been devastating for the region as a whole.
The Move Towards Domestic Consumption
Perhaps most importantly, the major emerging market countries that are China, Brazil, India and even Mexico, have started a long process of rebalancing. As their populations become wealthier, their middle classes are growing and their economic model is moving from export-driven to domestic consumption-driven. This should help these countries become less dependent on developed market growth and achieve a more balanced development model.
The long-term domestic growth story has been key to the success of some of the flagship emerging market equity funds. The Gold-rated Aberdeen Global Emerging Market Fund (
Research), for example, has long been invested in quality growth companies which benefit from growth in internal markets. The fund has large overweight positions in the consumer staples and financial sectors, two sectors which have seen very strong growth over the past few years. This trend, however, has created a valuation gap between the more defensive quality stocks – favoured by these funds – and the more cyclical stocks, more sensitive to global activity. As valuations for some of the defensive names reach new highs, some fund managers, such as JOHCM’s James Syme and Paul Winborne or Baring’s Roberto Lampl, have been favouring cyclical stocks lately, as they felt that such high valuations were no longer justified and could be a sign of a bubble. Whilst in the long term, this may prove the right thing to do, as the trend continues to favour the more defensive stocks, these funds are more exposed and performance has suffered as a result.
Below, we have selected a mixture of funds that investors can choose to gain exposure to emerging markets. We’ve highlighted some of the top performers in the following categories: top performers over three years, largest funds and newest funds. Please note that while we cover and rate many funds, we do not cover and rate all of the funds listed below.
Selection of Best Performers Over Three Years
ASEAN country funds have benefited from the strength of financials and consumer staples stocks over the past three years. These two sectors account for almost half of the ASEAN index.
Within the ASEAN region, Thailand’s stellar performance stands out. The Fidelity Thailand fund is managed by Asian equity analyst Eric Choe, who is part of the wider team of Asian analysts at Fidelity. In keeping with Fidelity’s investment philosophy, the investment process relies heavily on the bottom-up research conducted by the team. The manager particularly likes companies with improving fundamentals not reflected in the share price, high quality management, strong free cash flow and balance sheet, and industries with high entry barriers. The approach is relatively benchmark aware
The Asian equity team, headed by Devan Kaloo and Hugh Young is at the helm of the Aberdeen Global Asian Smaller Companies fund. The fund benefits from the extensive experience of its management team – who also run the firm’s global emerging markets and Asia Pacific offerings - and Aberdeen’s proven investment approach. The team aims to identify opportunities in the Asia small cap space and invest in a portfolio of 50-70 stocks, thought to be under researched and undervalued, for the long term.
First State Singapore & Malaysia Growth fund is managed in line with First State’s Asian and Emerging Markets investment ethos and process, which seeks well-managed companies with sustainable business models, predictable growth and low valuations. Alistair Thompson, who took over the management of the fund in August 2006, is an experienced member of the First State team. Risk is controlled by focusing on soundly-managed and financially strong companies, and by ensuring that the portfolio is well diversified. However, stock selection typically determines the sector weighting and therefore the sector positions can be significant relative to the index.
Selection of Top Emerging Market Funds Based on Assets Under Management
The Bronze-rated JPMorgan Emerging Markets fund (Research) is managed by Austin Forey who has 24 years of experience and is supported by a dedicated emerging markets research team. The approach is long-term and the primary focus is on company fundamentals. Forey prefers companies that benefit from domestic consumption growth rather than commodity prices or currency moves. Therefore the portfolio is typically dominated by the financials and consumer staples sectors. We have high regard for the fund's proven process, reflected by the fund’s Morningstar OBSR Bronze Rating.
The Bronze-rated Templeton Asian Growth fund (Research) benefits from the consistent approach managed by an experienced emerging markets management team. Templeton has a long track record of investing in the region going back to 1987 when Dr. Mark Mobius started managing dedicated portfolios. The team seeks to identify growth stocks that are trading at significant discounts and this also involves being contrarian and patient. The team believes that security selection is the main source of alpha generation so the portfolio can differ quite significantly from its benchmark. Thailand makes up a significant percentage of the fund and the portfolio features a small exposure to frontier markets with holdings in countries such as Pakistan. The strength and experience of the team, along with the rigorous process justify the fund’s Morningstar OBSR Bronze rating.
The chief attraction of the Silver-rated Fidelity South East Asia fund (Research) is manager Allan Liu, who has been managing money since 1990. The manager applies a flexible approach and his fundamental bottom-up style is finely balanced by his strong awareness of macro trends and appreciation for what has been discounted by the market. At the stock level, there is a bias towards growth companies as the manager is seeking attractively-priced stocks with above-average earnings growth potential relative to the sector or the market. The manager’s ability and experience underpin the fund’s Morningstar OBSR Silver Rating.
Selection of Top Newcomers
The Renaissance Sub Saharan fund is managed by Sven Richter, who has over 16 years of experience, having previously managed emerging market funds and Frontier funds at Templeton before joining Renaissance. He is supported by two analysts, Paul Ross and Orrin Flugel. The process starts with a quantitative screen of the market universe, based on liquidity, size and basic value. Fundamental research is then conducted to assess the quality of the business model, management, risk and valuations. The portfolio is built with consideration given to the macro environment and reflects the manager’s conviction.
The Robeco Asian Stars Equities fund holds a concentrated Asian portfolio, managed by Michiel Van Voorst. The manager aims at identifying the Asian companies that are the best placed to benefit from long-term growth trends in the region. The investment process is very bottom-up and value oriented, with little regard paid to the benchmark. The fund also benefits from the manager's 15 years of experience and the support of the wider emerging market team at Robeco.
The original version of this article was published in Expert Investor Europe in December 2012.
