Emerging Markets: Risk Rears its Head
With China, India, and Russia all sinking, what should investors do?
That risk has been born out by recent performance. Resource-rich Latin America funds have remained relatively buoyant, down just 5.7% for the year to date through 19 August, but China and India have slumped sharply over concerns about slowing growth and rising inflation. The Morningstar China Equity category is down 30% for the period, and Morningstar India Equity is down 31%. The Morningstar Russia Equity category has slid to a 17% loss, including a 10% drop in a single week last month.
We still believe emerging markets have a role to play in investors' portfolios, but we think speculating in them--particularly in the current environment--is a risky game at best. We therefore advocate using a broad emerging markets fund, in moderation, as part of a long-term asset allocation program and rebalancing as needed to keep exposure in line with client risk tolerances. We specifically would avoid narrow funds that focus on a given market or region. Emerging markets are risky enough without tying your managers' hands in this regard.
We think it's especially prudent for investors to avoid investing based on recent past performance. Leaders tables over short period tend to be full of high-risk offerings, and this group's is no exception. Among our favourite offerings for long-term investors are Angus Tulloch's First State Global Emerging Markets and First State Global Emerging Markets Leaders funds. Both offerings are backed by Tulloch's decades of experience and his group's extensive analyst team. The funds are not known for sitting at the top of the charts in bull markets--indeed, Global Emerging Market's five-year return is near the sector's bottom. However, Tulloch manages risk well, in part by focusing on sustainable growth instead of the latest fad. Both funds have held up well thus far in 2008 and have notably lower volatility than sector norms. The process has also delivered strong long-term results, with Global Emerging Markets delivering a top quintile 10-year record (Leaders was only incepted in late 2003).
We also think highly of Aberdeen Emerging Markets. Manager Devan Kaloo and the team that puts the fund together with him use the same focus on quality and value that Hugh Young started in Asia and has brought to the rest of Aberdeen's equity offerings. This can hold the fund back during speculative markets, as was the case in 2007, but it holds it in good stead in tougher times, as is evident from the fund's relatively resilient performance in 2008 (down 7%, compared to the sector's 14.4% loss). Other funds that we believe have merit, but which are somewhat higher risk, include Austin Forey's JPM Emerging Markets and William Calvert's AXA Framlington Emerging Markets.
A version of this article previously appeared in Investment Adviser, Financial Times Ltd.
