Emerging markets – as an asset class – are about to get much more complicated. The days of plonking 10 per cent of your portfolio into an actively managed EM fund and considering yourself ‘diversified’ are over. Investors, and fund managers, need to get wiser.
Those are some of the findings of a recent white paper from BlackRock’s investment think-tank.
The report, entitled ‘Are Emerging Markets the Next Developed Markets?’ looks at EM from all sorts of angles. Their conclusion is yes EM is the new DM, but not necessarily in the way you think.
BlackRock aren’t saying that emerging markets are the new safe haven – which is one implication of other reports that have asked the same question. Instead the point is that ‘emerging markets’, as a concept, could soon become outdated in its current form.
- As emerging market economies have grown and converged with their more developed counterparts, the long-time — and much trumpeted — EM diversification benefit for investors has, in our view, somewhat abated. We believe that diversification in itself no longer provides an adequate justification for investing in emerging markets.
- At the same time, while a macro focus might once have been sufficient for crafting an effective EM investment strategy, investors must now balance both macro and micro considerations when approaching these markets. In this regard, emerging markets have come to more closely resemble their developed market (DM) counterparts — and accordingly, investors must drill down to the sector, company and security levels to achieve their investment goals.
It goes something like this. Emerging markets are increasingly different from each other. When the EM term was first ‘invented’ by economist Antoine van Agtmael at the World Bank, lumping together China, Chile and Czechoslovakia (as it was) made sense. But not any more.
There are emerging markets that are heavily linked with Chinese growth and its commodities hunger – Peru for example, or Mongolia.
There are others that act as a high-beta play on global growth – South Korea and Taiwan, for example (though some would argue they are already developed markets, at least economically). Mexico, though decreasingly so, is closely linked to what happens with US growth.
None of this is news. But the implications for investment are perhaps not yet fully digested.
It means investors will increasingly have to pick their markets, their sectors, and their companies. There will no longer be a rising (or falling) tide that lifts all EM ships.
Country-specific ETFs – as well as even more narrowly defined ones – will become more important channels for getting EM exposure.
Investors will need to pay more attention to things like the size of domestic bond markets – which help fuel longer-term investment and increase return on equity – and corporate governance.
So yes, emerging markets are the new developed markets – in that you need to know them as well as each other. Plenty more reasons to read beyondbrics then…
Are emerging markets the new developed markets?, BlackRock Investment Institute
IMF: EMs still vulnerable to domestic pressures and external shocks, beyondbrics
EM currencies: the other shoe drops, beyondbrics
EM bonds: Citi jumps on board, beyondbrics
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