Investors urged to subscribe to a new world order

Investors who fled emerging markets at the end of last year may be regretting it now. Equity indices across Asia and other developing areas have rallied strongly in recent months, making up much of the falls they suffered in last year’s, and outpacing the recovery in western economies.

The MSCI Emerging Markets index has risen more than 50 per cent since its low last October, with a large proportion of the gains coming in the past few weeks.

Some individual markets have staged even more remarkable recoveries. Brazil’s Bovespa index, for example, is 75 per cent higher than its trough at the end of October, while Russia’s RTS index is up 80 per cent from its low last year.

“If we look at the numbers from the start of this year, emerging markets have significantly outperformed developed markets,” says Rupert Robinson, chief executive of Schroders Private Bank. “Particularly interesting are the Bric markets [Brazil, Russia, India and China], which were very much the darlings in the previous bull market but experienced a savage meltdown last year. So far this year, they have rallied hard.”

Advisers say the strong performance has been fuelled in part by a realisation that these markets were oversold at the end of last year. Investors, spooked by the banking crisis in the UK and US, suddenly became risk-averse and withdrew large amounts of capital from Bric markets.

“A huge amount of foreign funding left these countries,” says Christopher Godding, managing director at Morgan Stanley Private Wealth Management. “It was a case of ‘when developed markets catch a cold, emerging markets catch pneumonia’.”

Many now believe the long-term fundamentals are solid.

“Structurally, we are extremely positive on emerging markets,” adds Godding. “Governments have funding surpluses rather than the significant borrowing of the developed world. They can invest in infrastructure and the fabric of the economy.”

Emerging countries have not been hit by the banking crisis to the extend that western markets have. Consumers do not have high levels of borrowing and tend to save a large proportion of their earnings, so are well placed to increase consumption.

Bryan Collings, manager of Ignis International’s Hexam Global Emerging Markets Fund, which has grown nearly 17 per cent in the past three months, believes this increased domestic spending will help offset weaker demand for exports from western markets.

“In the next 10 years, we will see exports make a much smaller contribution to emerging market GDP as developing market consumers spend their savings and domestic consumption begins to increase,” he states.

Nigel Rendell, emerging markets strategist at RBC, believes the growth potential of emerging markets is much higher than western Europe and the US. “Countries such as China, India and Brazil are going to have superior growth rates as they catch up with the rest of the world,” he says.

However, there are fears that the recent rally could peter out in coming months.

Some advisers therefore suggest that investors should consider depositing money over a period of time.

“I would say they should probably take an incremental approach,” says Godding. “Maybe start with a small position, watch markets and increase it over time.”

Over the long term, he believes investors should be “open-minded” as to how much of their portfolio is in emerging markets.

“A typical portfolio might have 8-10 per cent now but over 10 years that could grow to as much as 30-40 per cent,” he states.

Most advisers see the best opportunities in the biggest economies: China, Russia and Brazil, and, to a lesser extent, India.

Rendell believes the best region is Asia. “Asia has the most dynamic productivity growth, its population is expanding, particularly the wealthy middle classes,” he says. He adds that prospects are good across the region, although the smaller markets, such as Singapore and Taiwan, may be more exposed to a fall in exports as they are so dependent on electronics. “You have to pick and choose entry points more carefully in those areas than China and India.”

Robinson also favours Asia as well as the big commodity producers in Latin America.

“China remains the key area over the next few years,” he says. “But as the world gets better, countries that are more export-orientated, such as Korea and Taiwan, may come to the fore.”

Advisers are less keen on central and eastern Europe, which they say have large current account deficits and are more likely to default on debt.

Investors who want to enter emerging markets could take a holding in a diversified fund, which spreads investments across regions. The Aberdeen Emerging Markets fund has holdings across India, South Korea, Hong Kong, Taiwan, Brazil, China and South Africa, while the Ignis Hexam Global Emerging Markets fund covers Israel and South Africa as well as Bric countries.