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Re-emerging markets?

Emerging markets suffered heavily last year as tapering by the US Federal Reserve and fears over the health of the Chinese economy caused investors to flee the asset class.

The MSCI Emerging Markets Index fell 2.27 per cent across 2013, significantly underperforming the 27.37 per cent gain seen in the developed market MSCI World Index. But should investors react to signs that some emerging markets have started to outperform the developed world?

MSCI Emerging Markets also under-performed the MSCI World in the first three months of this year, falling 1.08 per cent against a rise of 0.60 per cent.

But some individual markets fared better. India led the way, with its MSCI index adding 7.51 per cent over the quarter, followed by MSCI Turkey’s 4.10 per cent, MSCI South Africa’s 4.03 per cent and MSCI
Brazil’s 2.13 per cent.

Rebound to continue

Capital Economics argues emerging market stocks could continue to rise as concerns over China’s growth, the pace of Federal Reserve tapering and the Ukraine crisis keep easing.

It says: “We think there is plenty of scope for the rebound in emerging market equities to continue. After all, their recent outperformance of developed market equities pales in comparison to their underperformance since the start of 2012.”

JPM Emerging Markets fund manager Austin Forey argues investors should avoid writing off the whole asset class without taking a closer look at individual countries and the unique factors that drive them.

He says: “It is a big mistake to take a blanket approach to emerging markets and tar them all with the same brush. There are huge variations, geographically, culturally and economically.

“Some areas have been punished on a price basis simply by virtue of their locations, whereas others carry significantly more risk, so you have to be selective.”

Forey has overweights towards India, South Africa and Brazil, as their currencies look cheap to long-term fair value, while running underweights in current account surplus markets like Korea and Taiwan, where he is seeing a lack of individual stock opportunities.

Baring India fund manager Ajay Argal also cautions against taking a one-size-fits-all approach to emerging market equities. He notes the “unusually high” number of elections throughout the emerging world has caused more investors to be cautious but argues such events can be beneficial.

Argal says: “There is increasing evidence investors are differentiating between emerging markets. The Indian market has posted gains this year not in spite of the elections [concluding in May], but because of them. Expectations are edging higher that the pro-business, opposition Bharatiya Janata Party may come in as the big winners at the ballot box.”

Ashmore portfolio manager Gustavo Medeiros says other emerging markets have benefited from positive local news, including two outperforming the developed world.

Brazil’s trade balance returned to surplus in March, helped by a reduction in the country’s oil account deficit, while Turkey’s trade balance improved in February by falling from $6.8bn ($4bn) to $5.1bn.

He says: “Despite the global macro backdrop and favourable technicals in assets, the market is starting to respond to incremental evidence that economic rebalancing is at play.”

Despite the gains being seen in some countries over the first quarter, data from EPFR Global suggests investors continued to retreat from emerging markets in general with more than $40bn being pulled from funds over the three months. So, should investors take another look at emerging market equities?

Barclays Wealth & Investment Management chief investment officer, Europe, Kevin Gardiner says the low valuations of emerging markets are an attractive entry point for investors with long enough horizons.

He says: “It may be premature to tactically overweight emerging markets. They have started to outperform in the last month or so, but the trend is tentative and it is perhaps the capital market that is most exposed to monetary nerves.”

Gardiner says his optimism on emerging market equities is strategic, or with a five-year view in mind.

Forey says: “Emerging markets is more sentiment and confidence-driven than other asset classes. Right now, buying emerging markets is neither obvious or popular – but buy before it is obvious, because the obvious thing is almost always wrong.

“While caution is merited – cheap assets can always get cheaper – it is worth remembering that beyond the noise there is a compelling case for higher risk emerging markets. We are in a historically cheap zone.”

Philippa Gee Wealth Management managing director Philippa Gee arg-ues the ideal opportunity to invest in some emerging markets may have already passed, so choosing the right fund is essential.

She says: “The joy of this sector is there are many different options to consider these days given the range of investments available, so you can concentrate on very specific areas
or approaches if you prefer. Having said that, if you traditionally invested in emerging markets for the risk
it provided, then there are many other areas of higher risk at this time. There is no need to squeeze assets to cover that region if it is
not appropriate.”

Hargreaves Lansdown investment analyst Richard Troue

“We saw almost indiscriminate selling of emerging markets when tapering was announced but when it began in December there wasn’t much reaction at all, which suggested it was priced in. Now, I think a much more discerning approach is probably necessary, with more focus on local issues.”

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