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The next big story

The grass is always greener on the other side cliche is in danger of encompassing investors in emerging markets. As a whole, returns in these countries are obviously appealing, the long-term investment story is easily understood and their old reputation as being volatile areas seems to have waned in the eyes of investors.

However, the volatility of these disparate countries relative to each other could quickly lead to a trend of portfolio churning as investors try to keep pace with the story of the year.

With China up one year and Russia the next, advisers face a daunting task in reining in client expectations and trying to advise on which country-specific portfolio is best – not within regions but across them. Should it be HSBC India, First State China or Neptune Russia? Just as clients invest in one region, it is more than likely a different one will be the next best story and astound with top returns, leaving investors questioning why they put their money where they did.

The trend towards fund launches in emerging markets is indicative of the way in which investors have been approaching these markets and their changing attitudes. Years ago, the predominant way of gaining access to emerging markets was via broad-based portfolios such as Asia or Gem funds. To sit alongside generalist Asia-Pacific funds, there were also a few Latin-American portfolios. In fact, at one time there were enough of these vehicles that it used to have its own IMA sector.

Then came the Bric launches in Brazil, Russia, India and China, although Brazil seems the poor cousin of this quadruplet as the market started launching a myriad of single-country portfolios for China, India and Russia. These days, the latest emerging market launch trend has been towards Africa and the Middle East, or those dubbed frontier – colloquially referred to as emerging.

From a returns perspective, it is easy to see why investors can get excited and disappointed at the same time with these country-specific funds. In examining specialist, where most single-country offerings reside, global emerging markets and the Asia ex-Japan sectors over every calendar year since 2000, it is plain to see how sporadic the performance is from region to region.

According to data from Financial Express, in 2000 the best-performing emerging fund was Baring China while in 2001, Baring Korea led returns. In 2002 and 2003, funds invested in India beat out their rivals, although those exposed to Russia and China also fared well. In 2004 it was Eastern European funds that did best, while in 2005 it was mixed between Russia, Korea, the Middle East and LatAm funds. China and India languished towards the bottom in 2005.

China and India bounced back in 2006 and 2007, only to fall back again over the volatile 2008 period when more broadbased Asian funds did the best. It was all change once again during the market rallies of 2009 when Russia and Brazil started to soar, while so far this year it is over to Africa for the best gains.

Caught up in the media hype of these regions and the attractive returns on offer, it is easy to see why investor enthusiasm for country-specific funds may be hard to dampen. The large amount of national press coverage detailing why certain regions feature prime investment opportunities makes it clear for consumers to understand the investment story, even without comprehending a whole lot about finance.

Considering where the World Cup is being held, it is unsurprising that there are a greater number of press stories about investments in the region at present.

Fidelity International emerging Europe, Middle East and Africa fund manager Nick Price points to a range of opportunities in Africa.
He says: “Africa’s exposure to the Western developed world is shrinking and in its place are growing ties with the new global economic powerhouses such as the Brics. An illustration of this is that China has just displaced Germany as South Africa’s leading trading partner.

“For all the international attention South Africa will receive this World-Cup year, investments in the region remain attractively valued in comparison to other emerging markets.”

But if Africa disappoints next year and a different region excels, are those same investors going to demand a switch?

One way for advisers to tone down client expectations and disappointments is to assess the long-term returns, where there appears to be little difference between regions.

The best cumulative return from January 1, 2000 to January 10, 2010 is from Threadneedle Latin American with a gain of 375 per cent, according to Financial Express data. This fund is followed by Baring Hong Kong China, with a gain of 370.02 per cent, HSBC Gif Indian equity at 366.30, Scottish Widows Latin America, 353, and Baring Eastern Europe at 329.07 per cent. Not a lot in it, considering how varied these regions are in the short term.

Caught up in the media hype of these regions and the attractive returns on offer, it is easy to see why investor enthusiasm for country-specific funds may be hard to dampen

Investors could also return to the old school way of emerging market investing – via Gem or Asia portfolios. Despite the added attention emerging regions have garnered in recent years, twice now in the past year the Gem sector has been among the worst-selling retail areas of the market, according to IMA sales figures. Not once has it been the most popular.

Instead of seeing these funds as watered-down versions of accessing emerging markets, perhaps investors should start seeing them in the same light as fund of funds. Just as the argument goes that giving money to a multi-manager leaves the asset allocation and fund switches in the hands of someone experienced, so too can this be said of Gem managers.

As their remit has always been to look across these markets, aren’t they best placed to determine asset allocation between Asia and LatAm?

While the broaderbased portfolios may not top the return tables next to some of the country-specific vehicles, perhaps their ability to smooth the inter-volatility of the regions is a more appealing attribute.

M&G global emerging markets co-fund manager Matthew Vaight, says: “Emerging markets are more than just the Bric countries that grab all the headlines – those four countries account for less than half of the global emerging markets universe, which comprises 5,000 companies from more than 20 countries.”

He added that recently he has invested in regions such as the Philippines, Colombia and Dubai.

While investors have long struggled to choose between the variety of UK equity portfolios on offer – choosing small or mid-cap over blue chip or all-cap funds – compared with emerging markets, that decision now looks relatively easy.

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