If you ever chanced to work at the Edinburgh-based fund management firm First State Investments, you would have been obliged to take an oath when you started.
It would have reminded you of your obligations to your clients (mainly to put their interests first) and made you repeat a few basic but vital rules to help you do so. My favourite? ‘I will not succumb to irrational exuberance in good times, nor to unjustified gloom in bad times.’
This is something that fund managers – and ordinary investors – find almost impossible most of the time. That’s why we have bubbles (irrational exuberance) and busts (unjustified gloom). Those who can hold their nerve, selling when others are buying at silly valuations and buying when others are panic-selling, are the ones who end up doing the best. This is particularly true, in my view, in emerging markets, where most managers are almost always far too positive.
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Should you invest in emerging markets?
Ask most money managers whether you should invest in emerging Asia or perhaps Latin America and the answer will invariably be yes. You will be told that it is only in these exciting new economies that you can find the kind of growth that drives stock-market returns.
You are also likely to be informed that the long-term returns from emerging markets have been higher than those from our boring old developed markets. This is all nonsense.
According to a group of academics at London Business School, while emerging markets do occasionally show periods of stunning outperformance (such as the period 2000-09), in the 113 years from 1900 to 2013 they returned 7.4% a year. That’s nice, but it is considerably less than the 8.3% a year investors got from developed markets.
Returns are based on price
This brings us – as almost everything in investment does – to price. Study after study has shown that stock-market returns are not remotely connected to economic growth. Your returns are based on the price you pay when you first invest, not how fast any given country’s GDP is rising.
So the periods during which emerging markets have outperformed in the past 100 years can be nicely matched up to those in which they have offered value – something that is equally true for developed markets.
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Long-term investing can be simple
The good news is that this means long-term investing is simpler than most people think: you don’t have to make bets on which countries will see the fastest economic growth over the next 10 to 20 years. You just have to figure out which markets offer value and which markets don’t.
The good news here is that emerging markets in general look cheap and some look very cheap indeed.
I have written about Russia (which some may say is cheap for a very good reason) and China here in the past few months, but right now emerging markets in general are about 30% cheaper than developed markets. That – not the growth everyone tells you about – is a good reason to add them to your investment portfolio.
Good investment trusts with exposure across emerging markets include JP Morgan Emerging Markets investment trust and the Genesis Emerging Markets Fund.
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