Jeff Salway: Fear of emerging market fallout

There are growing fears over emerging economies such as Brazil. Picture: Getty

ORDINARY investors and pension savers may be more exposed to the ongoing turmoil in emerging markets than they realise, experts are warning.

Markets in Asia and Latin America fell to seven-month lows last week, triggering sell-offs in developed markets, including the US.

The slump has been blamed largely on the US Federal Reserve’s decision to begin winding down its quantitative easing (QE) programme, while there are also concerns over the Chinese economy.

The effect of QE, whereby central banks “print” money to buy bonds, has been to keep interest rates down, reduce volatility and boost investment in risky assets such as emerging markets. As the US begins to tighten monetary policy again, however, investors are backing out of emerging markets in favour of developed economies.

About $12.2 billion (£7.5bn) was taken out of emerging market equity funds in January, according to figures from EPFR Global, primarily by private investors.

It revealed on Friday that outflows so far this year from emerging markets equity funds have already surpassed those for all of 2013. And while UK markets remained resilient last week, emerging markets guru Mark Mobius has warned of “a lot more selling” before prices stabilise.

David Thomson, chief investment officer at VWM Wealth in Glasgow, said: “We are wary of these markets while there is still a lot of scope to take profits after a good run and until the outcome of the withdrawal of QE is clearer, which may be a year to 18 months yet.”

So what does this mean for those with money in pension and investment funds? Ideally those investments would be held for the long-term, meaning short-term volatility shouldn’t be a cause for concern.

Thomson said: “Emerging markets supporters argue that these countries will provide better returns in the long term. Consequently you should close your eyes to the short-term setbacks and persevere in anticipation of strong long-term returns as it will be difficult to time your entry and exit points to these markets.”

But many savers and investors are unaware of the extent to which they are exposed to that volatility.

UK investment houses hold billions in developed economies, not only through emerging markets and Asia funds, but also through global growth vehicles. And you don’t need money in those funds to get exposure to emerging markets – the returns from UK equity funds rely heavily on the performance of companies that focus increasingly on emerging markets opportunities.

“With a third of the UK market capitalisation represented by mining and resource companies, this is a big deal,” said Haig Bathgate, chief investment officer at Turcan Connell in Edinburgh.

“There is a also an impact on other large multinational companies, such as Unilever and Diageo, which have been hit both by slowing emerging markets and the recent strength in other markets – this is the antithesis of the reason people were using to invest in those companies just two years ago.”

The message for investors is to get an idea of their level of exposure to emerging markets and, if it’s out of kilter with their appetite for risk, to take action.

For many people, however, emerging markets will play a significant role in providing the investment growth they need, particularly in long-term retirement savings.

In that respect, said Thomson, the current slowdown may offer an opportunity. “Those who do see this setback as a buying opportunity can simply ‘pound cost average’ their investment and make regular monthly investments. That way you end up buying more when markets are weak and consequently this style of investing lends itself very well to volatile investment areas such as emerging markets.”

More than four out of 10 financial advisers believe now is a good time for their clients to increase their investments in emerging markets, the latest Barings Investment Barometer shows.

“Our research shows continued interest in emerging markets as an investment opportunity,” said Rob Aldridge, of Barings. “Whilst the short-term outlook for emerging markets is challenging given the reliance on exports to the West and a general lack of supply-side reform, we strongly believe that Asia and emerging markets will experience strong growth over the long-term.”