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Emerging Markets : Sufficient Risk Compensation

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AWOL
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Emerging Markets : Sufficient Risk Compensation

#436975

Postby AWOL » August 24th, 2021, 8:32 am

Hi,

Controversial in the eyes of market weighting enthusiasts but I am increasingly sceptical that he performance of emerging markets rewards the risks of investment. Many of the businesses seam not to be ran for shareholder benefit. The returns picture is either terrible, similar, or amazing depending on the historic timeframe chosen to measure it over however charges are higher and volatility is often higher too.

What allocation to EM if any is sensible for a portfolio in drawdown? Every £ allocated to EM is a £ not allocated to DM so there is a cost to the choice (there's also a cost to not being allocated but from here that looks like a reasonable choice). I'd be interested in others thoughts on EM allocation. I don't think the data buys the "higher risk, higher reward" story often pedalled. Ironically I think China (definitely higher risk) looks more rewarding than the smaller EMs (clearly not Vietnam recently).

Regards,
Russ

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Re: Emerging Markets : Sufficient Risk Compensation

#437106

Postby Steveam » August 24th, 2021, 3:27 pm

Your questions raise lots of interesting issues. I don’t have answers but here are a few musings. Every time I depart from a world tracker I know I’m taking a view and part of that view is the risk and reward question that you mention.

I’ve considered having all my stock investments in a low cost world tracker - something like SWDA or VWRL but when, for example, the Japanese market was highly valued I’d have held a lot of Japan which then dropped for 30 years - of course this is compensated by other holdings rising but somehow I feel as if the world tracker approach is buying high and goes against reversion to the mean.

Despite the jaundiced views you’ll often find on here diversification is the nearest thing we have to a free lunch and holding emerging markets is part of that. I don’t believe I have much of an edge so although I do bias things and take views I’m not prepared to go too far from being diversified and balanced which leads back towards the world trackers and ETFs.

Best wishes,

Steve

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Re: Emerging Markets : Sufficient Risk Compensation

#437220

Postby JohnW » August 24th, 2021, 11:13 pm

Good questions and good thoughts. Portfolio visualiser has data for about 25 years, showing EM WAS more volatile with lower return that developed market stocks. Not all EM funds, of course, hold the same country mix as this index might have. But if you move the starting date 7 years later you see a better return with more volatility with EM. Choose your period and you can get the result you want!
But for perspective, EM is about 15% of global, so an extra (or reduced) EM return of 0.6%/year for 15% of your STOCKS portfolio (imagine you have 70/30 stocks/bonds), turns out to be 0.15x.006x0.7= not much/year. To hold more than market weight has been more risky, and to hold less seems like it would matter even less.
By the time one's made the big decisions sensibly: diversification; asset allocation; low cost; no market timing; leave the active managers to manage someone else's money; then EM or not fades in importance, leaving one with 'keep it simple' (EM as part of global, or not).

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Re: Emerging Markets : Sufficient Risk Compensation

#438537

Postby AWOL » August 31st, 2021, 6:39 am

I've decided that through using developed world trackers as core holdings to be underweight EM. Some EMs are too tied to polluting commodities for me to like them and some like China have fantastic tech businesses (China has done a brilliant job of backing strategic technologies, in my opinion the best in the world) but in the end I am worried about rule of law, consistency, share holder value, and getting a fair share of the returns so for now I am reducing my EM holdings. I do lament the loss of diversification, particularly the loss of cyclical/value/lower rated equities but that's the price and risk I am taking.

I am increasingly passive and find that while their are winner in the IT space few of them do it for long and one is likely to invest in more funds that underperform the index than outperform.

On a slightly unrelated point the market has proven me painfully wrong on SMT, whose stock selection, concentration, liquidity, and low-for-active fees are all brilliant however I either don't buy in or sell out early for the same reason every time for SMT... "this must be overbought, this cannot continue". I am like a bear about to capitulate before the bloodbath with them.

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Re: Emerging Markets : Sufficient Risk Compensation

#438577

Postby jonesa1 » August 31st, 2021, 9:18 am

AWOL wrote: Some EMs are too tied to polluting commodities for me to like them


Often these are essential components for the transition from burning fossil fuels to using renewable energy. It may be better for people to be invested and promote improvements in the way extraction businesses operate, rather than avoid them and depress the SP, with the risk that their shares are only held by people and organisations which are disinterested in ESG concerns.

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Re: Emerging Markets : Sufficient Risk Compensation

#438594

Postby NotSure » August 31st, 2021, 10:06 am

AWOL wrote:...Some EMs are too tied to polluting commodities for me to like them...


I hold a Vanguard EM fund that is ESG. (It's kind of a counterbalance to my high yield UK fund which is stuffed full of very non-ESG shares).

https://www.vanguardinvestor.co.uk/investments/vanguard-esg-emerging-markets-all-cap-equity-index-fund-gbp-acc

However, as always for me at least, the switch to ESG has not prevented my EM component from continually dragging down my mean performance. I've never been lucky with EM - active, passive, bonds, ESG, all have underperformed my other choices. If I ever 'capitulate' on EM, I'll let everyone know - that would be a big 'buy' signal ;)

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Re: Emerging Markets : Sufficient Risk Compensation

#438598

Postby AWOL » August 31st, 2021, 10:37 am

NotSure wrote:However, as always for me at least, the switch to ESG has not prevented my EM component from continually dragging down my mean performance. I've never been lucky with EM - active, passive, bonds, ESG, all have underperformed my other choices. If I ever 'capitulate' on EM, I'll let everyone know - that would be a big 'buy' signal ;)


I just sold that at just under the price I bought at and some Lifestrategy and am switching into Vanguard ESG Developed World All Cap Equity Index Fund (UK) - Accumulation.

jonesa1 wrote:Often these are essential components for the transition from burning fossil fuels to using renewable energy. It may be better for people to be invested and promote improvements in the way extraction businesses operate, rather than avoid them and depress the SP, with the risk that their shares are only held by people and organisations which are disinterested in ESG concerns.


It's a fair argument although I think the management of materials companies have a track record of short-termism (which you could argue is down to their eagerness to deliver shareholder value but I suspect has more to do with business culture).

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Re: Emerging Markets : Sufficient Risk Compensation

#438616

Postby NotSure » August 31st, 2021, 11:39 am

AWOL wrote:I just sold that at just under the price I bought at and some Lifestrategy and am switching into Vanguard ESG Developed World All Cap Equity Index Fund (UK) - Accumulation.
.


I actually also hold the Vanguard ESG Global All Cap UCITS ETF (V3AM). It contains more companies and has a lower weighted PER, but does overlap with my ESG EM fund and has a slightly higher OCF. The ETF also pays dividends, which at this point are annoying from a record keeping PoV (I am accumulating, not drawing down so accumulation type funds keep it simple). Maybe I'll switch it to the developed world only one, so my poor luck on EM does not spread further......

TBH, the whole 'EM' concept is starting to seem dated - hence the newer 'frontier' type funds. Have you been to Shanghai or Taiwan in the last twenty years? Looks pretty 'emerged' to me!

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Re: Emerging Markets : Sufficient Risk Compensation

#438801

Postby AWOL » September 1st, 2021, 8:29 am

I have done business in Beijing and recognize that urban China is very much in the first world but rural China (I am told) remains largely undeveloped. India whilst very different has a similar divide between urban development and the left behind rural communities. The other testing factor is for a market to be considered acceptable for inclusion in a developed world index it should be open, lacking capital controls, have rule of law free from political manipulation, etc. and it is these factors that are holding China back.

Bribery is another thing to consider as something that taints business in the emerging markets however there are developed markets that don't look that different including some southern European countries so I don't think it alone is enough to exclude a country from DM indices.

Would I be right in saying that ownership of Chinese equities is still tolerated by the authorities but not actually legal thus leaving the ability to effortlessly acquire foreign owned assets in the name of the law without passing an enabling law?

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Re: Emerging Markets : Sufficient Risk Compensation

#438970

Postby UncleEbenezer » September 1st, 2021, 4:16 pm

AWOL wrote:On a slightly unrelated point the market has proven me painfully wrong on SMT, whose stock selection, concentration, liquidity, and low-for-active fees are all brilliant however I either don't buy in or sell out early for the same reason every time for SMT... "this must be overbought, this cannot continue". I am like a bear about to capitulate before the bloodbath with them.


Tell us when you buy so I can take the cue to top-slice!

Surely the way to hold unfamiliar stocks is through a manager whose business it is to know what they're doing. Like the team managing SMT and other global funds. That applies least to the home market, somewhat more to our developed-world peers, and more again to emerging markets.

You also get some choice over whether to invest with a manager who applies ethical criteria to investments, and if so how they go about it. Though doing that meaningfully calls for some work reading their reports.

Would I be right in saying that ownership of Chinese equities is still tolerated by the authorities but not actually legal thus leaving the ability to effortlessly acquire foreign owned assets in the name of the law without passing an enabling law?


I've no idea. But remember, that kind of thing can happen in Blighty, too: for example, railtrack nationalisation. Nowadays foreign-held assets can even be confiscated without any recourse to the UK courts under the so-called Magnitsky Act, a measure designed to encourage foreigners - particularly users of London's money-laundering services - to keep up their party donations.

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Re: Emerging Markets : Sufficient Risk Compensation

#439446

Postby LooseCannon101 » September 3rd, 2021, 1:29 pm

I feel more comfortable with a highly diversified equity portfolio that includes Emerging Markets. Who knows where the next crisis will crop up?

Risk usually means paying too much for an asset when all is blue skies and sunshine. Political uncertainty, higher interest rates, military tensions, etc. are always going to affect the world economy but with new technology and an expanding middle class a highly diversified world equity fund should do reasonably well e.g. 8-9% per annum on average.

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Re: Emerging Markets : Sufficient Risk Compensation

#439472

Postby Dod101 » September 3rd, 2021, 3:04 pm

Picking up on Scottish Mortgage, I rate the manager first and then the product. Baillie Gifford has got as good a record as any manager. They have a collegiate style within the business, it is an unlimited private partnership, just about the only one left in the UK I think which makes them doubly security connscious I have no doubt, and a great record. All of that is just about the opposite of abrdn which is pretty good in itself.

That has not got a lot to do with emerging markets and obviously some markets must by now have 'emerged' considering that we have been investing in them for I guess at least the last 20 years. I suppose what we are trying to capture in the emerging markets is the China effect (preferably without the political overtones). That is inter alia, cheap but skilled labour with a strong work ethic, light regulation and the ability to change course quickly. That sort of thing tends to come with a general geo-political risk, including lack of strong laws and enforcement of them and corruption. So are we getting sufficient compensation? Not very often I think but as LooseCannon101 says, a diversified portfolio with at least some exposure to emerging markets may well be the best way to go.

Personally, I have usually preferred not to invest specifically in such markets but to leave that to the managers of one or two generalist ITs. They can then decide whether to go into these markets or not. If I buy an IT with a specific mandate for emerging markets and things do not look good, the manager has nowhere to go.

Dod

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Re: Emerging Markets : Sufficient Risk Compensation

#439863

Postby AWOL » September 5th, 2021, 5:48 pm

Talking of China tech investment, has anyone been following the ARM Holdings story about Allen Wu and chop? What a horror situation. It reminds me of BPs nightmare experiences in Russia.

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Re: Emerging Markets : Sufficient Risk Compensation

#439882

Postby absolutezero » September 5th, 2021, 7:30 pm

AWOL wrote:Talking of China tech investment, has anyone been following the ARM Holdings story about Allen Wu and chop? What a horror situation. It reminds me of BPs nightmare experiences in Russia.

George Soros in the FT.
George Soros: Investors in Xi’s China face a rude awakening
https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=&cad=rja&uact=8&ved=2ahUKEwie0talu-jyAhWHecAKHcw_CI8QFnoECAMQAQ&url=https%3A%2F%2Fwww.ft.com%2Fcontent%2Fecf7de34-e595-4814-9cbd-4a5119187330&usg=AOvVaw0xFsRtroUa0HOiOXkbaIsG
(Google link gets round the FT paywall)

China? No ta.

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Re: Emerging Markets : Sufficient Risk Compensation

#439886

Postby AWOL » September 5th, 2021, 8:17 pm

An excellent article... I am wondering about the wider repercussions for Asia now. I still have some exposure to China via that and of course the risk of contagion which is large given China is a powerhouse in Asia.

Perhaps not his intention but the letter from Tony SK Li has a cautionary note that is worth reflecting on:

It has always been apparent. It is just that some people chose to forget and then now pretend to remember.


I do believe I agree that their is an element of self-deception here. Wish fulfilment may be part of it.

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Re: Emerging Markets : Sufficient Risk Compensation

#439980

Postby absolutezero » September 6th, 2021, 10:29 am

AWOL wrote:An excellent article... I am wondering about the wider repercussions for Asia now. I still have some exposure to China via that and of course the risk of contagion which is large given China is a powerhouse in Asia.

Perhaps not his intention but the letter from Tony SK Li has a cautionary note that is worth reflecting on:

It has always been apparent. It is just that some people chose to forget and then now pretend to remember.


I do believe I agree that their is an element of self-deception here. Wish fulfilment may be part of it.

I suspect it's the delusion along the lines of 'the immediate past has been like this so the future will be as well'.
Forgetting that the leopard does not change its spots.
Communists gonna communise.

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Re: Emerging Markets : Sufficient Risk Compensation

#439994

Postby AWOL » September 6th, 2021, 10:59 am

The gun may be metaphorical but it seams to me that for every communist "Political power grows out of the barrel of a gun" still.


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