Most investors worry about inflation and what the Federal Reserve will do about it. However, it’s time to take a longer view. If you want to make money on stocks over the next 10 years or more, you need to think about what the future will look like.
A clue comes from a report from the UN in July. Researchers think that almost all of the population growth between now and 2050 will happen in emerging markets, especially India, which will pass China to become the largest country next year. Nigeria and the US will tie for third place. Indonesia, Brazil, Pakistan, and Bangladesh are also countries whose populations will grow quickly.
The population isn’t the only thing, though. But the invested capital, infrastructure, and education systems of developed countries are all strong points. All I’m saying is that it’s a bad idea, especially right now, to ignore developing economies.
In 1988, the research firm MSCI released its Emerging Markets Index (EMI), which included stocks from 10 countries that made up only 0.9% of MSCI’s All Country World Index (ACWI). Because developing countries are becoming more important to the world economy and financial markets, the EMI now has stocks from 24 countries, which make up 12% of the ACWI. From the end of 2000 until Aug. 31, the EMI has done better than the ACWI by an average of two percentage points per year. This is a big difference.
Things have been different as of late. In the five years up to August, the EMI returned an average of 0.6% per year, while the ACWI returned 7% and the MSCI USA Index returned 11.8%. The exchange-traded fund (ETF) IShares MSCI Emerging Markets has gone down in five of the last ten years. So far this year, it is down nearly 20%. Inflation is higher in many emerging markets than it is in the U.S. and Europe. Nigeria’s inflation rate recently hit a 17-year high of 19.6%, and in Turkey, prices have doubled in just three years.
If you look at these numbers, you might think that emerging markets are on their last legs. But consider valuation. The EMI’s average price-earnings ratio is only 11, while the ACWI’s is 15, and MSCI’s USA index is 17.
And developing countries’ economies are growing much faster than those of the United States and Europe. The Economist says that India’s GDP will grow by 6.9% this year, the Philippines’ by 6.7%, Argentina’s by 4.3%, and Egypt’s by 5.7%. On the other hand, the U.S. is expected to grow by 1.7% and Europe by 2.8%.
Don’t go to China.
China is by far the biggest emerging market, making up about a third of the Emerging Markets Index (EMI). But its economy is hurting itself through a harsh response to the COVID pandemic and a crackdown on technology companies, which are seen as a threat to the idea of “common prosperity.”
Also, the U.S. wants China to be cut out of supply chains. For these reasons, I think investors should not put too much money into Chinese stocks or buy emerging market funds like iShares MSCI Emerging Markets ex China (EMXC), an ETF that has no Chinese stocks. (Unless otherwise noted, returns and other data are through September 9; stocks and funds I like are in bold.)
Another good fund is Invesco’s S&P Emerging Markets Low Volatility (EELV). It is an ETF that is linked to an index of the 200 mid-and large-company stocks in S&P’s emerging markets index that are the least volatile. The fund has been in the top 16% of its category for the past five years. It has a dividend yield of 4.7% and costs of only 0.29 %. It has a wide range of things. China’s share of the portfolio is only 6%, which is less than Thailand, Malaysia, and Saudi Arabia.
For top stocks and mutual funds in emerging markets to think about,
you can buy individual stocks or actively managed portfolios like Wasatch Emerging Markets (WAESX), which has only 7% of its assets in China and 29% in India. With a 7.3% return over the past five years, the fund has done much better than the EMI.
Globant (GLOB)), a global tech company with operations in Argentina (even though its headquarters are in Luxembourg), is its fifth-largest holding. It has a long list of impressive international clients, and its shares have more than five times as much value as they did in 2017. The expense ratios for managed emerging-market funds are high, in this case, 1.37 percent.
Another favorite is Matthews Emerging Markets Equity (MIEFX), which is run by a company that knows a lot about Asia. The fund has Chinese stocks worth 12% of its total assets and charges 1.13% in fees. One of its biggest holdings is the Indian bank HDFC (HDB), which has a market capitalization (number of shares times price) of more than $100 billion.
Banking on India
India is the biggest and best of the emerging markets. Banks that offer a wide range of retail and business services make it easy to invest in the whole Indian economy. You could also think about ICICI (IBN), which is an Indian bank stock with a market cap of $79 billion. In the last five years, HDFC’s shares have gone up by about a third, while ICICI’s have gone up by more than double.
I also like Dr. Reddy’s Labs (RDY), which has given me an average annual return of 10.2% over the past five years. Dr. Reddy makes and sells drugs, mostly generics, in India and other developing markets, the U.S., and Europe. Except for the first few years of COVID, sales and profits have always gone up.
Brazil is the biggest market in South America, and even though its government is often unstable, it has some strong companies that are worth looking into. I like companies that focus on the domestic market, like banks Bradesco (BBD(opens in new tab)) and Itau Unibanco (ITUB(opens in new tab)), rural real estate and farming company BrasilAgro (LND(opens in new tab)), and Companhia Brasileira de Distribuico (CBD(opens in new tab)), which sells food, clothes, electronics, and gasoline.
local (DLO), an international payments platform based in Uruguay with a market cap of $7.4 billion, is one of the top holdings of the Invesco Low-Volatility fund. PAC, which operates five airports on Mexico’s West Coast and has a similar size, has a 5.1% yield.
These are big, well-known businesses. They trade on U.S. exchanges, so they have decent, if not strong, liquidity and have to meet our standards. Still, emerging markets are unstable, and as we saw with China, the risks are often both economic and political. The current slump could last for a long time, so you need to think long-term. But putting up to 10% of your assets into a mix of stocks and funds from developing countries now could help your portfolio in the next ten years.
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