Emerging markets seen as 'the trade of a decade'

NEW YORK • Emerging-market assets are so cheap that they may be "the trade of a decade", according to Research Affiliates, a sub-adviser to Pacific Investment Management Company (Pimco), one of the world's biggest money managers.

They are joining a growing number of investors, including BlackRock, Franklin Templeton Investments and Goldman Sachs Asset Management, who are turning bullish on emerging markets after three years of under-performance.

With borrowing costs at the highest levels since the depths of the global financial crisis, traders are being compensated for challenges ranging from falling commodity prices to China's economic slowdown, BlackRock said on Tuesday.

"The exodus from emerging markets is a wonderful opportunity - and quite possibly the trade of a decade - for the long-term investor," Mr Christopher Brightman, chief investment officer at Research Affiliates, said in a post on Pimco's website on Wednesday.

"We are increasingly confident of our positioning in emerging market stocks and bonds."

Developing-market securities accounted for 35 per cent of the Pimco All Asset Fund and 39 per cent of the Pimco All Asset All Authority Fund as of Dec 31, according to Mr Brightman.

The two funds, managed by Mr Rob Arnott who co-founded Research Affiliates in 2002, had combined assets of about US$29 billion (S$40.7 billion) at the end of January, data compiled by Bloomberg show.

Mr Brightman said emerging- market stocks are "exceptionally cheap" after MSCI's benchmark gauge declined 30 per cent over the past three years.

He pointed out that the so-called Shiller P/E Ratio, a measure of valuation based on cyclically adjusted price-to-earnings ratio, fell to 10 in January. There have been only six times when the measure has dipped below 10 over the past 25 years.

In the following five years, the stocks rallied an average 188 per cent, according to Mr Brightman, who oversaw the endowment at the University of Virginia before joining Research Affiliates.

"From the rear-view mirror, the bear market in emerging markets has been painful," Mr Brightman wrote in the post.

"When we look out of the windshield, however, these very asset classes offer the highest potential returns available to today's opportunistic investor."

The MSCI Emerging Markets Index trades at 1.3 times net assets, near its lowest level in seven years. Benchmark measures of Chinese, Brazilian and Russian shares all trade below price-to-book.

Mr Arnott, who developed the two funds for Pimco in 2002 and 2003, helped pioneer what he calls fundamental indexing, an approach designed to limit risk and beat benchmarks over the long haul by favouring undervalued assets.

The contrarian approach has not been successful in recent years, partly because assets in developing countries continued to decline.

The US$20 billion All Asset Fund lost 11 per cent over the past year through Feb 23, compared with a decline of about 7 per cent in the Standard & Poor's 500 Index on a total return basis.

Mr Brightman said in the post that the recent under-performance of value-oriented stocks has been unusual. Value stocks have lagged their growth-focused peers by more than 5 per cent annually over the past three years through 2015, a rare occurrence since 1997.

When it did happen, the relatively cheaper value companies returned 6.7 per cent more than growth equities annually in the following three years.

This history demonstrates that asset prices tend to converge to their long-term average, a strategy his company pursues, Mr Brightman said. "It is a manifestation of a core tenet of our investment philosophy: The largest and most persistent active investment opportunity is long-horizon mean reversion," he wrote.


A version of this article appeared in the print edition of The Straits Times on February 26, 2016, with the headline 'Emerging markets seen as 'the trade of a decade''. Print Edition | Subscribe