Emerging markets back in vogue amid global slowdown

Fund managers are again filling their portfolios in markets offering more flexibility, writes Carrie Lam

PUBLISHED : Sunday, 23 September, 2012, 12:00am
UPDATED : Sunday, 23 September, 2012, 10:21am

Investing in emerging markets is often a risky bet. But under the bleak financial cloud covering the global economy, this is a chance many are willing to take, which is the reason developing countries are appearing back in fund managers' portfolios.

Gary Dugan, chief investment officer, Asia and Middle East, at Coutts, says the key difference between emerging countries and developed markets is that the former have the flexibility to do something meaningful to stimulate growth.

He believes that emerging market debt will continue to be re-rated and emerging market yields could continue to fall relative to developed market yields.

The managing director and portfolio manager in BlackRock's global bond portfolio team, Owen Murfin, believes "emerging market securities should play an increasingly important role in any fund manager's portfolio".

He says these investments act as a great diversifier and allow investors to gain access to regions with favourable growth and demographic dynamics, and to governments with strong fiscal profiles.

He says local currency South Korean government bonds are top of their list, where slowing growth has opened the door for significant Central Bank easing.

On the other hand, Murfin says while investors should be wary of geopolitical risks in the Middle East, they should also take into account sovereign risk in fiscally strong markets, such as Qatar and Abu Dhabi, where he believes the geopolitical risk is fairly priced. In his opinion, oil exporter such as Russia, which would benefit from higher oil prices without the same geopolitical risk, is also a smart investment.

According to research by ABN AMRO Private Banking, emerging market equities have under-performed since the completion of Quantitative Easing 2 (QE2). During Quantitative Easing 1, which created a "risk on" market environment, supported by money flows into riskier asset classes, emerging markets outperformed MSCI World by more than 45 per cent.

It says China's aggressive investment programme also contributed to the strong performances of emerging market equities in QE 1.

This explains why emerging markets under-performed MSCI World during QE2.

However, this positive spin may deteriorate with China in the process of transitioning from investment to consumption-led growth.

The bank's head of equity research, Asia/regional co-ordinator Asian research and strategy, private banking Asia, Daphne Roth, says a Chinese "mini-stimulus", targeting domestic consumption, will most likely supplement a possible QE3, which would support consumer goods exporters.

While Roth believes this would bode well for emerging markets in terms of investor sentiment and economic growth, diminishing returns from further quantitative easing should give QE3 a less significant impact on emerging market equities than QE1 and QE2.

Maggie Tsui, managing director, deputy head of investment services, Asia, BNP Paribas Wealth Management, also feels less bullish on emerging market debts after the strong rally since the beginning of the year and with valuation a bit more expensive and fundamentals being increasingly challenging.

Tsui notes the divergence between emerging market stocks and developed market stocks and worries that the divergence may spread to emerging market bonds soon as, she says, the fundamentals are deteriorating fast in developing markets, led by China.

Coutts, meanwhile, urges investors to remain cautious when investing in emerging markets for the remainder of this year. The wealth management company says global growth appears to have stalled and the euro zone situation is still a major concern.

These two factors, along with tension in the Gulf, especially with Iran, results in Coutts advising investors to be cautious on equities, and to take their profits in assets that have given exceptional gains.