Russia and Brazil lead managers’ picks

Advocates also argue that risk of “contagion” if one market collapses has been significantly reduced since the Asian and Russian crises of 1997 and 1998. Emerging markets fund managers currently favour Asia and Latin America.

Oussama Himani, head of emerging markets research at UBS Wealth Management, says Asia’s economic outlook is healthier than at any point over the past 10 years.

“There is a consensus view emerging that Chinese growth is unsustainable. But the authorities are taking steps to tighten monetary policy to stop the economy overheating,” says Mr Himani.

He believes this danger is concentrated in limited parts of the economy and that the government can produce a smooth landing, followed by a sustainable 7.5 per cent growth rate.

Positive outlook

As well as Asia, Mr Himani identifies a positive outlook for Latin America. He says the currency crisis of two years ago helped grow exports from Brazil, which in turn helped service Brazil’s external debts.

He is less optimistic about the accession states to the European Union in Central and Eastern Europe, where a large part of the equity outperformance has already been achieved. “The valuations in these markets are pretty much where they should be. They are smaller and less liquid markets and most have interest rates close to those in the EU. There is not much of a convergence play left.”

But Russia can maintain its strong equity and bond performance of recent years in 2004, because the oil price will remain relatively high, says Mr Himani.

“Over the medium term, we would like to see greater diversity in the Russian economy, although the short term outlook for the oil price remains on the upside. The situation in Venezuela is still uncertain and it will take some time to restore production levels in Iraq given the security situation in the country.”

Mark Madden, manager of the Pioneer Emerging Markets European equity fund, argues that on a global asset allocation view, “emerging markets is the place to be invested”. His fund underperformed the S&P/IFCG index over the past year.

He says the loose monetary policy that developed countries, particularly the US, are determined to follow until inflation returns, will boost growth in emerging markets by creating liquidity.

Valuations in emerging markets, says Mr Madden, should end the current rally at higher multiples than equities in developed countries. Furthermore, emerging markets are not as dependent on global demand as before, because of the growth in domestic consumption.

He is optimistic about prospects for Latin America. “Argentina has been in depression but is coming out of it and Brazil will enjoy strong growth. We are less bullish about Mexico as its economic growth is more tied to the US than other Latin American countries.”

Lending in India

Another reason for Mr Madden’s bullish views on emerging markets compared to developed countries is the emergence of money lending in markets such as India. “We are entering a new era as consumers are able to borrow money in these markets for the first time to fund their consumption. Indians, for example, can now take out mortgages.”

Mr Madden says China is in a bubble but this can last a long time. “Asia was in a relative economic bubble between 1993 and 1997 so it can take a while to unwind. It depends on external factors and how the authorities manage fiscal policies. China could continue to grow for many years, assisted by foreign direct investment and outsourcing by companies in developed countries.”

Niall Paul, manager of the Aviva Emerging Countries fund, which has returned +58.3 per cent over the past year compared to +55.48 per cent by the S&P/IFCG Composite index, but underperformed over three and five, says the economic environment favours emerging markets. There have been low interest rates globally, the US economy has started to recover and China has surpassed expectations. This boosts exports from and economic growth in emerging markets while the low interest rates help countries with large debt such as Turkey and Brazil.

While Mr Paul expects growth to be maintained, he expects the pace to slow down, particularly from the high levels of the last quarter of 2003. He expects “fairly flat equity markets” over the next three to six months to be followed by a growth in consumption, fuelling rising stocks from the fourth quarter of 2004.

His optimism derives from the relative valuations of equities in emerging versus developed countries, especially the US, which trades at a 30 per cent premium. “The question is whether emerging markets are cheap or the US is over-valued. We believe the discount between equities in emerging markets and the US will narrow to 10 per cent,” says Mr Paul.

Like the other managers, Mr Paul believes Asia will outperform in this environment as the rest of the region benefits from Chinese growth.

While the Aviva Emerging Countries fund is overweight in Asia, it is underweight in Latin America and Eastern Europe. It has, for example, half the weighting in Israel of the MSCI Emerging Markets index because of the political instability that has detrimentally affected the economy. Mr Paul is, however, bullish about prospects for Turkey because of “its low interest rate policy, the fact inflation is better than expectations, it has an improving economy and the long-term possibility of the country joining the EU despite a number of potential obstacles.”

Acquio Wen, co-fund manager of the CitiEquity Emerging Markets fund, which has performed above the index over the past one and three years, also highlights attractive valuations.

“Whereas emerging markets are trading at between 12 and 13 times earnings, the S&P500 in the US is in the low 20s multiples and the MSCI index for developed countries is in the high teens. Even though emerging markets have risen more than 50 per cent over the past year, multiples have only gone from nine times to 12,” reveals Mr Wen.

GDP rise

He expects earnings growth this year in emerging markets and highlights Korea and Brazil as two countries where the Citigroup fund is overweight. “In Brazil, for example, we expect 3.5 to 4 per cent GDP growth this year.” Mr Wen believes outperformance can continue for another 12 to 18 months.

There is sufficient liquidity in these countries, he adds, particularly the larger markets like Taiwan, Brazil, Turkey and South Africa. “About 70 per cent of our portfolio can be liquidated within three to four days while the other 30 per cent can be sold within 10 trading days.”

Gary Potter, co-head of the multi-manager service at Credit Suisse, says its global portfolios are still overweight in emerging markets. He is optimistic about prospects in Asia with China, but, unlike other managers, forecasts further increases for East European equities in the short to medium term.

He is also positive about Latin America, which is benefiting from the stronger economic US growth, and Russia, due to continued high oil prices and reforms under President Vladimir Putin.

‘Emerging markets is the place to be invested’

Mark Madden, Pioneer