Sentiment towards emerging markets has become increasingly negative as a result of slowing economic growth in the developing world. This has hit equity markets, with the MSCI Emerging Markets index losing 3.44 per cent over three years.
Performance of indices over 3yrs
Source: FE Analytics
Walls, who manages the five crown-rated Unicorn Mastertrust fund, says he made the right decision to be underweight emerging market equities recently but he is thinking about changing his allocation.
"I am pleased that I haven’t really been in emerging markets over the last three years," he said.
"However, there has been a massive relative underperformance between emerging and developed market equities over that time."
"The question is, when will be the time to have another look? I’m thinking about it as we speak," he added.
Walls says that now is the right time to buy emerging market investment trusts, as companies in the sector are extremely cheap. On top of that, Walls is also bullish on global economic growth next year, which should make the same companies more profitable.
"If you start to look at the fundamental valuations such as P/E ratios, they look relatively attractive," he said. "We have had some severe earnings downgrades in emerging markets over the last 18 months."
"However, if you feel global GDP growth will improve next year, driven by the likes of the US, UK, Europe and even possibly Japan, then that should help emerging markets. People are starting to upgrade their earnings activity for next year."
"Some still see tapering as the major concern, but it has been pretty well signalled and communicated by the Fed. If people know it is going to happen and there has already been a lot of flows out of emerging markets, is it going to be much of surprise when it happens? My answer is no," he added.
The £11.1m Unicorn Mastertrust fund only invests in investment trusts and Walls has a proven track record of extracting value from the asset class.
According to FE Analytics, Walls’ fund is the third-best performer in the IMA Flexible Investment sector over 10 years, with returns of 159.83 per cent, beating the average fund by close to 70 percentage points.
Performance of fund vs sector over 10yrs
Source: FE Analytics
The fund also boasts top-quartile returns over one and three years and is the best performer in the sector over five years. Unicorn Mastertrust has an ongoing charges figure (OCF) of 1.99 per cent and requires a minimum investment of £2,500.
Walls says he takes a contrarian approach to investing and because of that is always looking for discount value. That is one of the main reasons he is thinking about buying emerging markets trusts, as he feels there is a lack of value elsewhere.
"There is an element of contrarian thinking. However, I think you will find that a lot of the press are saying that there is not a lot of fundamental value elsewhere. Markets have climbed the wall of worry and because of that there could be better relative value in emerging markets," he added.
There are reasons why he is not jumping into emerging markets yet, however.
He says that although emerging market trusts have performed poorly compared with their developed market counterparts, the poor sentiment has had little effect on discounts.
There are also more fundamental reasons to be optimistic about the sector.
"Emerging markets are clearly correlated with commodity prices. If I am making a call on emerging markets, then I am making a call on commodities, which is a pretty brave decision," he added.
Nevertheless, Walls says there are a number of emerging market investment trusts that are on his radar.
"I think it would be a combination of a more generalist global emerging markets fund and a couple of Asian ones. I am not really naming names at this stage. It is a big call and that is why I am taking my time to make the decision," Walls added.
The highest-rated closed-ended global emerging markets fund, according to FE's rankings, is the five crown-rated Utilico Emerging Markets investment trust.
It is the best-performing portfolio in the sector over three years, with returns of more than 33 per cent.
Performance of fund vs sector over 3yrs
Source: FE Analytics
The fund yields 3.12 per cent, which could be one of the reasons it is trading on a tighter discount (3.1 per cent) than the majority of its peers. It has gearing of 6 per cent and has ongoing charges of 0.85 per cent, though that excludes its performance fee.
Templeton Emerging Markets has four FE Crowns and a growth bias. It is trading on a much wider 8.6 per cent discount.
There is a clear difference between the discounts on growth and income-producing trusts in the Asia Pacific ex Japan sector, as the majority of dividend-paying closed-ended funds in the sector are trading on, or close to, a premium.
Nevertheless, investors who want cheaper exposure to the region could use the Pacific Assets Trust.
It is the best-performing portfolio in the sector over one year, with returns of more than 20 per cent, and it is still trading on a 3.2 per cent discount to NAV, though that figure is tighter than its one- and three-year averages.
The trust is not geared. It has ongoing charges plus a performance fee of 1.65 per cent.
