Saturday, August 29, 2009

How to Invest in Emerging Markets after the Crisis?


Growing numbers of investors believe that Emerging Markets are here to stay this time. Erratic, cyclical behavior like some 10 years ago during the Ruble and Mexico peso crisis doesn't seem to be a feasible scenario. At least not to the extent that it will change the long-term outlook.

The BRIC nations are here to stay as new superpowers, and interest in other Emerging Tigers and Frontiers is growing as well. Tons of analysts are speculating about the outlook, week after week.

In this Blog we will present our contribution. Not as a piece of theory, but as four separate portfolio strategies instead.

Today, August 28, 2009 we will introduce these four separate portfolio strategies that are - each of them - relatively simple to follow. What we like to do here, is to show investors at home that it is not impossible to be successful Emerging Markets investor.

The four strategies that we introduce are:
  1. Morningstar's Best Ideas
  2. The Emerging Markets Winner Portfolio
  3. The Emerging Markets Loser Portfolio
  4. The Next-11 Portfolio
Portfolios 2-4 hold 8-9 stocks, and portfolio 1 double that amount (16). Portfolio 1 is derived in a rather simple way. We went to Morningstar and selected the 3 best Emerging Markets Equity mutual fund managers for different analytical periods: 10 years, 5 years, 3 years and 1 year. These top managers were: Oppenheimer, DFA, Delaware, Driehaus, Evergreen, JHT and Aberdeen. DFA was even represented with two funds. Next, we selected the top-10 holdings from the portfolios of each of these managers. Consecutively, we decided to generate a portfolio consisting of the 'Best Ideas' of these top managers, i.e. the stocks with the largest cumulative portfolio weights. Surprisingly, 'cash' / liquidity did also qualify. That is another way of the top managers saying that we should still be careful with the market. It ain't over yet, albeit that selected Emerging Markets did a great job. We did therefore decide - for both the Best Ideas and the Other Portfolios - to add a 'cash' component to the portfolio. The fun of this approach is that every amateur can sign up on Morningstar and see if this approach works. Are top managers really top managers in Emerging Markets? And: do they really outperform with their larger holdings? Or are these the holdings for risk reduction? And do they make their real good returns with smaller, more aggressive names in the portfolio? We made sure that we did not select more than 2 stocks per country and that there was sufficient portfolio diversification available. You cannot work together with a Noble Prize Laureate who won his prize for Diversification / Risk Management on the one hand and then, somewhere else - online - create concentrated portfolios without sufficiently different names! Next, we divided our investment money in equally-weighted portions over the various holdings:

Morningstar's Best Ideas portfolio:
  1. ICICI Bank (India)
  2. Reliance Industries (India)
  3. Taiwan Semiconductor (Taiwan)
  4. China Mobile (Hong Kong)
  5. TPV Technology (Hong Kong)
  6. Orascom Telecom (Egypt)
  7. Gazprom (Russia)
  8. Turkcell (Turkey)
  9. China Construction Bank (China)
  10. Sasol (South Africa)
  11. Vale Rio Doce (Brazil)
  12. BMF Bovespa (Brazil)
  13. Teva Pharmaceuticals (Israel)
  14. CEMEX (Mexico)
  15. Samsung Electronics (South Korea)
  16. OTP Bank (Hungary)
  17. Cash
All 17 blocks have a weight of 5.9 percent (rounded). This Friday afternoon we 'bought' this stake in all of them. With stocks from a large group of countries, we do of course understand that currency risks will play an important role, however: we believe that - on average - hedging won't be necessary. Neither will we hedge currency risk in our other three portfolios. We will compare the performance of this 'specialist' portfolio with the MSCI Emerging Markets index and will do the same with our more ludicrous portfolios of Winners, Losers and Next11 stocks. Tomorrow more about the other three portfolios. We will analyse performance at least on a weekly basis. During the week(s) we will then have enough time to pay a bit more attention to the various firms. They are important for their countries, and will hopefully be important new ideas for you - when you are trying to recapture some profits in this Post-Credit-Crisis period!

The next few days more about the other portfolios. Let's see if we can beat the market!

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