Imogen Harris
Assistant Fund Manager, Premier Miton Global Smaller Companies Fund
Check and test
For information purposes only. The views and opinions expressed here are those of the author at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.
One of the key challenges – and excitements – of investing in emerging markets, especially as a smaller companies investor, is the heterogeneity of the region. Even terming it a ‘region’ is a misnomer as the emerging markets stretch across the continents. The MSCI Emerging Markets Small Cap Index contains 1,827 companies, spread across 24 countries.
The investment rationale for investing in these 24 countries has and will continue to change over the years, reflecting the rapid evolution of both the countries and the constituent companies. Therefore, investors investing in emerging markets need to continually check and test the case for investing in particular regions or sectors. Part of this is breaking down the emerging market ‘jargon’ to better understand the space we are allocating capital to.
What are ‘Emerging Markets’?
How do you define an ‘emerging market’? When asked to name one, an investor would give a vast range of answers. For me, I would use a definition as broad as possible, to fully reflect the wide range of investment opportunities on offer within these regions. The word ‘developing’ implies an economy that is still undergoing an evolutionary process and despite the lack of granularity, it does seem suitable.
Each region – and individual country – are driven by unique economic, social and historical factors, and because of this demonstrate the variety of investment outcomes that can emerge over the long-term.
What indices can tell us
The purpose of an investment index is to provide a replication or representation of a certain portion of a market. We can also use the composition of major emerging market indices to reveal some of this changing nature.
In December 2000, Emerging Markets only occupied around 5% of the market value of the MSCI All Country World Index. By June 2020, this market value composition had doubled to 12%. Moreover, we also saw extensive changes within the emerging markets proportion.
China went from occupying around 7% of the emerging markets proportion to nearly 40%. Its composition of the MSCI All Country World Index went from 0.3% to 4.8%. A passive investor needs to understand that the make-up of their investment may change substantially over time and monitor the impact this may have on their investment goals.
Another BRIC in the wall?
Another angle to examine this idea from, is the rise, and subsequent fall of the concept of ‘BRIC’ investing. Around 2000, the investment community saw Brazil, Russia, India, and China grouped together as the four emerging markets with enough combined economic horsepower to unsettle the incumbent G7 markets. The thesis being – if these nations could close the GDP per capita gap vs ‘developed markets,’ the potential for outsized investment returns could be delivered So, did this latent economic potential materialise over the last two decades?
The answer is – sort of. Over the last 20 years, all three countries (excluding Russia) have outperformed the broad emerging and developed market indices, but only across set time periods. The obvious counterpoint to the strength in the BRIC market performances, is the volatility of the individual country’s indices.
The strongest performer has been India, outperforming the MSCI World Index which comprises developed markets by 478% in US dollar terms and 1062% in local currency terms. The outperformance of Brazil peaked in 2008 and has been underperforming since. Until China’s economic deceleration after the Zero-covid policy in early 2021, it had delivered the strongest BRIC performance.
Now with the Zero-covid policy rolling off, China may again return to its performance leadership. Russia, unsurprisingly, has had a very poor 2022. These country index comparisons speak to the idea that each country can by driven by their idiosyncrasies, and it is important to consider investments within the local context.
Twenty years of BRIC: BRIC constituent indices compared to a world equity index
Source: MSCI data from 31/12/2002 to 30/12/2022 in US Dollar terms. Past performance is not a reliable indicator of future returns
Managing the ‘changeability’
The process of moving from an emerging into a developed economy is never an upward or linear trajectory. How can a global investor incorporate local context in their investment framework?
As a team, we believe in employing an investment process that monitors our universe across various levels on a stock, country and sector level. Tracking these long-term macroeconomic factors can add-value in terms of how we control risk.
The heart of our philosophy is that we believe in the local context, investing in high-quality companies that have the potential to become the larger companies of tomorrow. Understanding domestic drivers behind these changes will help us better assign capital to these winners of the future.
