Emerging markets come of age

Back in the 1990s, they were “submerging markets”. But over the past few years, developing countries’ stockmarkets have rocketed. What's the best way to gain exposure?

Back in the 1990s, they were "submerging markets". But over the past few years, developing countries' stockmarkets have rocketed. Since October 2002, the MSCI Emerging Markets Index has more than tripled, and is now just below its May record peak. The Bric nations (Brazil, Russia, India and China), which Goldman Sachs reckons will be among the top six global economies in 2050, have led the rally, climbing six-fold.

You can see why investors are excited. Emerging economies, which boast young and expanding populations, are growing much faster than their industrialised counterparts, helped by burgeoning middle classes that are spurring consumption and thus reducing dependence on exports which have jumped over the past few years, thanks to the commodities boom. The Brics in particular have bolstered their appeal by stimulating education, foreign investment and entrepreneurship, Mark Mobius of the Templeton Emerging Markets Investment Trust told Investment Trust magazine, while "developed markets are no longer superior in terms of corporate governance".

It's not just in that respect that emerging markets have pushed through structural reforms. In Latin America, for instance, local investors have gained confidence in their markets, notes John Edmunds in Barron's. That's because they have become "more solid and transparent", with pension and mutual funds springing up, while governments have also granted central banks independence, thus taming inflation. Strong export growth and better financial housekeeping have allowed governments to accumulate foreign reserves and pay down debt; Brazil's external debt has fallen by more than 25% since 1998. Floating currencies and healthy current-account surpluses also make emerging economies look far less vulnerable to the sort of turbulence that accompanied the Asian crisis of 1997. "Emerging markets are growing up," says the Buttonwood column in The Economist. Meanwhile, valuations look reasonable, with the asset class on a 15%-20% discount to developed markets. Their scope for catching up with the industrialised world is also clear from the fact that emerging markets comprise just 7% of the total value of world stockmarkets, and account for under a quarter of the world's GDP.

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Emerging markets have become more closely correlated with the developed world as globalisation has progressed, as John Authers notes in the FT, although he points out that while Brazil's correlation with the S&P is 0.70 70% of the movements in Brazilian stocks can be ascribed to the S&P the correlations for the other Brics is only 0.4. A slowdown in global growth would cloud the overall outlook, notes Buttonwood. But given the solid long-term case, no "serious investor" can afford to ignore emerging markets.

Many developing markets, along with the MSCI Emerging Markets index, can be played with exchange traded funds. Mobius is keen on Brazil and Turkey, while his biggest single holding is Korean residential property developer Hyundai Development (012630, KRW48). Kiplinger's Steven Goldberg highlights New York-listed Telekom Indonesia (TLK, $36) and Brazil's oil major Petrobras (PBR, $85). Investors can also gain good exposure to emerging markets through some London-listed plays, such as HSBC (HSBA, £10.07) and Standard Chartered (STAN, £14.69), says Robert Cole in The Times.