Emerging market funds have performed poorly - and asset managers are paying the price, as investors trim their exposure to the region.
In our new video series "Ask the Expert", Morningstar analyst Oliver Kettlewell explains why there has been a down turn in emerging markets, and which funds would be suitable for contrarian investors.
Emma Wall: Hello. I’m Emma Wall and welcome to the series Ask the Expert. Here with me today is Morningstar analyst, Oliver Kettlewell. Good morning.
Oliver Kettlewell: Hello. Good morning.
Wall: So today, Oliver, we’re going to talk about emerging markets. Why have so many funds faired so poorly?
Kettlewell: It’s quite a stark contrast actually, because if you look at emerging markets relative to developed markets, developed markets have actually done well year-to-date. In fact, the average fund in the global large cap blend category at Morningstar is up nearly 20% year-to-date. You compare that with the average fund in emerging markets, which has actually lost money for investors. So there is actually a stark contrast between emerging markets and developed markets right now.
Wall: What’s caused these outflows?
Kettlewell: I think it is these short-term structural headwinds which are hitting emerging markets. On the one hand, you’ve got social unrest in a number of countries, most recently in Brazil and also in Turkey. At the same time, a more general feature has been the fact that growth forecast for emerging markets has been revised downward pretty much across the board, at least for the big four BRICs, that’s Brazil, Russia, India and China. That’s a reversal of a previous trend, whereby emerging markets in previous years were kind of hitting or even exceeding growth forecasts. This previously reassured equity investors that stock market returns were underpinned by strong fundamentals, and that’s now slipping away and that’s being one of the reasons for their poor performance in the outflows.
Wall: Because investors are skittish, aren’t they? Before, even with volatility in emerging markets, people had faith that the things would improve. Is it the GDP figures that are making people skittish?
Kettlewell: I think that’s part of the reason, and also the fact is that the emerging economies are, to some extent, restricted in order to – that they cannot reflate their economies perhaps where they could have done in the past. For example, if you’ve got lower GDP forecast, you can perhaps reduce your interest rates. However, a lot of emerging market currencies are depreciating in value. They’ve got inflation issues. So in that sort of environment, you can't really reflate your economy by reducing interest rates, because you’re going to make inflation more, you’re going to make your currency depreciate even more. So in the short term they’re kind of restricted with the amounts of levers they can pull to try and reflate these growth forecasts, yes.
Wall: Are there any funds that are offering above market returns?
Kettlewell: Yes, I think – I mean, emerging market funds as a group, as I’ve said, have not done too well. But as you know, our favorites are Aberdeen and First State, which are both Gold rated. However, it’s well known that they are trying to restrict flows. They’ve got upfront charges, and the fact is that Aberdeen has faced some quite heavy outflows recently, which are being quite difficult to probably deal with for the fund manager. So I think it is worthwhile pointing out boutique asset managers, who are just as good as some of these big brand names. One of them being Somerset.
We rated the Somerset Global Emerging Market Growth Fund earlier in the year. We rated it Bronze. Not many investors will have heard of this boutique probably; their fund launched in 2008. While that’s quite a short track record, the fund management team of about 10 persons have been together for a long time than other firms previous to Somerset. So they’ve got a lot of emerging market experience stretching back longer than the fund launch. So for investors who are willing to kind of look outside the box of the big name brands, I think Somerset is a really good pick.
Wall: But emerging market is perhaps not for the cautious right now?
Kettlewell: Not for the cautious. If you’re a contrarian investor, probably yeah, you’re going to be increasing your exposure to emerging market; if you’re a momentum investor, you’re probably going to be selling or running for the door, yes.
Wall: Oliver, thank you very much.
Kettlewell: Thank you.
Wall: This is Emma Wall for Morningstar TV. Thank you for watching.
