In an industry known for its veritable alphabet soup of acronyms, the lower or even vanishing usage of “BRIC” — that’s Brazil, Russia, India and China — is a sign of the times.
Amid “a state of deep outflows” in mutual funds and ETFs tied to emerging markets, research firm Morningstar retired its BRIC category last year because “those strategies were relics of an age when the hot investment theme was the growth” in those countries and South Africa, Morningstar Indexes Analyst Dan Lefkovitz wrote in the firm’s second-quarter magazine. The substantial underperformance of emerging markets compared to U.S. stocks in the past 15 years reflects the complete opposite scenario from 2000 to 2009. In that time, U.S. stocks had a “lost decade,” while emerging markets were providing “an oasis of strong returns,” he wrote.
As one tangible yet ironic example of the completely different landscape, it’s common to see ripoffs of Pop Mart’s Chinese toys in New York’s Union Square today, according to John Dance, the portfolio manager for Fidelity Investments’ Emerging Markets Fund. About 20 years ago, knockoffs of American goods were prevalent in China, he noted. Dance and other portfolio managers speaking in a panel at last month’s Morningstar Investment Conference acknowledged the complexity of investing in emerging markets, whether in terms of their current low returns at the macro level or the inevitable political factors involved with the asset class. If President Donald Trump’s ongoing trade negotiations aren’t causing some volatility on a particular day, any number of unforeseen events could do so.
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As Dance put it, there is always “something going on somewhere,” and “I’m pretty used to losing sleep as a consequence.” Still, he and other investing experts argue that international holdings offer diversification and potential for outsize returns with the right level of granular expertise tapping into, say, China or India. At the macro level, popular demographics dictate that developing economies will give rise to more consumers and investors worldwide in the future.
“I’m trying to look at where those transitions are happening,” Dance said. “There are buckets of opportunity there, and you just have to get the magnifying glass out and do the work on the ones that make sense.”
Morningstar data comparing indices covering more than 3,500 stocks in over 20 countries to one tied to U.S. equities display why active management remains so important to emerging markets. From March 2010 to this past March, the emerging markets index had a gross return of just 81%, while Morningstar’s U.S. index jumped by 515%. On the other hand, the emerging markets index notched a gross return of 156% between January 2000 and December 2009, while the U.S. stocks lost 1%. So the emerging markets may be undervalued today: They’re trading at a price-to-earnings ratio of 14, but U.S. stocks’ P/E is 24.
The “structural story around emerging markets remains intact,” Morningstar Investment Management Chief Investment Officer Philip Straehl said in comments included in Lefkovitz’s analysis. “Emerging markets represent 80% of the world’s population and nearly 70% of the world’s GDP growth but only 10% of the total global equity market cap. A burgeoning middle class continues to develop in emerging markets and should prevent interesting opportunities for investors, albeit with higher volatility.”
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The panelists echoed that view, with some caveats of their own. After a time of “almost hyper-globalization,” no one can say for sure “how far the reversal will go” and affect the economy and particular companies in places like India, Vietnam, Mexico and China, noted Lisa Thompson, an equity portfolio manager with Capital Group, the parent firm of American Funds.
India represents “one of the true great emerging market growth stories out there,” but investors should be price-sensitive in “a real stock-pickers’ market” in that country, Thompson said. In fact, the trade uncertainty and other political trends in China are adding to that trend.
“China is very complex,” Thompson said. “There are ways to get exposure to the growth in China, there are ways to minimize exposure and you can choose companies wisely.”
For financial advisors and their clients, one other takeaway is the simple fact that “things do change,” said Rohit Chopra, a portfolio manager and analyst with Lazard Asset Management.
He noted that, “What sometimes the market takes as given often doesn’t prove to be right.”
That means investors need an expert-level research focus on the most relevant information in every country, which could amount to political subtleties and monetary policies affecting the performance of, say, a bank in Turkey.
“No moment in emerging markets is a dull one,” Chopra said. “That gives us the ability to have conviction around where some of the mispricing or some of the anomalies exist.”
