You took a trip to faraway lands and bought the T-shirts, but as a do-it-yourself investor, should you also invest in those emerging markets?
Probably not if you're a novice. Unlike buying, say, an ETF based on a Canadian or U.S. index you know reasonably well, you really should know what you're doing, the experts say.
Investing in emerging markets can be tempting because they sometimes perform differently than developed ones. And of course, that can be either good news or bad news.
"While the start of the 21st century was a lost decade for developed markets, emerging-market equities powered ahead," says London Business School economists Elroy Dimson, Paul Marsh and Mike Staunton in a report this year prepared for the Credit Suisse Research Institute.
"From 2000 to 2010, the annualized return on the MSCI Emerging Markets index was 10.9 per cent, versus just 1.3 per cent for developed markets," the authors say. [MSCI provides investment research and analysis to clients such as pension plans and hedge funds.] "Since then, euphoria has segued into disappointment. Emerging market equities, bonds and currencies fell sharply in mid-2013 … This triggered headlines such as, 'West is best' and 'Emerging markets a costly mistake.' "
How much of a mistake is it? Actually the London Business School authors make the case, using data from 50 countries going back to 1900, that emerging markets are not as bad as the skeptics might expect, though they still can be, well, exciting. Though more volatile than developed ones, the gap is closing.
By last year the average emerging market was only 10 per cent more volatile than the average developed market, keeping in mind that the roller coaster could either be on an upswing or a downturn.
There's also the matter of making sure, as a DIY investor, that you understand when a market is an emerging one and when it is a developed one. They're not all the same; think of the differences between well-known ones such as Brazil, Russia, India and China, in government, political stability and regulation.
Why invest in them at all, then? Good question, says George Christison, retirement and investment planner and founder of InvestingForMe.
"I have never understood why anyone would invest in emerging markets," he says. Nothing xenophobic about this to him: "Simply, I do not know anyone who has ever consistently made money investing in them."
Dan Bortolotti of PWL Capital Ltd. agrees that "investors should be prepared for a bumpier ride in pursuit of higher returns" if they want to try emerging markets.
Going back to the MSCI Emerging Markets Index, Mr. Bortolotti notes that the annualized return for those markets between 1988 and last July was 11.4 per cent, but the yearly standard deviation (the market swing) was 20.6 per cent. Looking at Canadian, U.S. and developed international markets, the long-term swing was between 14 and 16 per cent.
"While DIY investors may be involved in picking individual Canadian and U.S. stocks, the only practical way to invest in emerging markets is through a diversified fund," Mr. Bortolotti says. Several exchange-traded funds (ETFs) offer exposure to hundreds of emerging market stocks at a cost of 0.25 to 0.45 per cent.
He points to Vanguard's FTSE Emerging Markets Index ETF with management fees of 0.33 per cent and another offered by BlackRock Canada, the iShares Core MSCI Emerging Markets IMI Index ETF with a 0.25-per-cent management fee.
Another strategy is to buy an ETF that includes global stocks from both emerging and developed markets. As a DIY investor, you can let the fund, rather than you, manage the stock picks (as long as you're comfortable with its management philosophy).
A mixed fund of this type also gets around the issue of how to look at a market that some experts consider emerging while others consider developed, such as South Korea, because it can be either or both and be part of this ETF.
Do you still really want to be an emerging market investor? Consider the following, Mr. Christison advises:
– Emerging market companies are not necessarily governed by the same accounting and disclosure rules as North American companies. This can make it hard to tell whether a dollar of profit in an emerging market company is measured the same way as a dollar in a Canadian or U.S. one.
– The legal and business framework for an emerging market company can be different than for a Canadian or U.S. one, leaving investors open to different decisions on anything from executive pay to environmental policies to board governance, with little control.
– The annual reports and financial information may be published only in a language you don't understand.
This makes no difference if, like many investors, you don't read them anyway – but if you're a DIY investor, you should.