But do changing market conditions mean investors need to pay more attention than ever to managers willing to look past the benchmark? FE Analytics shows the average fund in the IMA Global Emerging Markets sector has failed to beat the index over the past 10 years, gaining 224.06 per cent against the MSCI Emerging Markets Index’s 244.69 per cent rise.
The average fund has also struggled to beat the index over one, three and five years.
Performance of sector and index over 3yrs
Source: FE Analytics
The recent S&P Dow Jones Indices Versus Active Funds Europe Scorecard report highlighted the difficulty that emerging markets managers have in beating the index, despite it often being seen as an area where active management is able to demonstrate its value.
Just 41 per cent of sterling-denominated funds investing in emerging markets have beaten the market over three years, according to S&P Dow Jones Indices.
Over five years, this falls to 37.5 per cent.
“It is often believed that in less efficient markets, such as emerging market equities, active investing provides better results because of its ability to take advantage of perceived mispricings. The results for emerging market funds dispel this myth,” the paper says.
Despite this, investors are buying actively managed emerging market funds again.
Fund flow data analyst EPFR Global notes that retail commitments to emerging market equities hit a 77-week high in the week ending 30 July after more than £1.2bn worldwide poured into global emerging markets and Asia ex Japan funds.
Although buying the index would have served investors well over the past decade, fund pickers are increasingly interested in emerging market managers looking beyond the benchmark.
Apollo Multi Asset Management, for example, recently returned to the asset class by buying the Standard Life Global Emerging Markets Equity fund.
Apollo fund manager Ryan Hughes believes the beta story is coming to an end and says finding managers unconstrained by their benchmark is now one of the most important issues when investing in emerging markets.
Somerset fund manager Edward Lam (pictured) agrees with this sentiment.
“We have never run a fund that has been tied to arbitrary index weightings,” said the FE Alpha Manager.“Since inception we have had close to 0 per cent in energy and materials which constitute 30 per cent of the index; we built positions in the UAE when these were still considered frontier markets; and we have also occasionally found value in developed market companies with substantial emerging and frontier exposure.”
Lam’s £716m Somerset Emerging Markets Dividend Growth fund has a beta of 0.63 over three years – one of the lowest in the sector. Its alpha is 7.70 over the period and its tracking error is 8.62 relative to its benchmark, hinting at the manager’s willingness to look outside the MSCI Emerging Markets.
The fund, which has an ongoing charge figure (OCF) of 1.33 per cent, has returned 13.71 per cent over three years, outpacing the 3.64 per cent average decline in the sector and the 3.65 per cent fall in the benchmark.
Performance of fund, sector and index over 3yrs
Source: FE Analytics
Hermes Global Emerging Markets is another that does something very different. Within its top-10 it holds a number of off-benchmark stocks – within its top 10 it owns Russia's largest retailer Magnit and Chinese manufacturing company Techtronic Industries, both of which are not found in the MSCI Emerging Markets Index.
The fund, which has an OCF of 1.14 per cent, has outperformed both the benchmark and its peer group over one, three and five years.
Investors in the fund have seen a 4.32 per cent return over three years as the fund dodged the sell-off in the index.
Performance of fund, sector and index over 3yrs
Source: FE Analytics
David Gait’s £282m First State Global Emerging Markets Sustainability fund has the highest three-year returns in the IMA Global Emerging Markets sector, posting a 23.02 per cent rise against the peer group’s 3.64 per cent. This fund has beta of just 0.58 and a tracking error of 9.15.
Gait has allocated 6.6 per cent of the portfolio to Nigeria and 6.3 per cent to the UK, neither of which are present in the benchmark.
Other allocations of note include a 20 per cent weighting to India, which accounts for 6.8 per cent of the benchmark, and 7.2 per cent in Chile, which makes up only 1.5 per cent of the MSCI Emerging Markets.
It also has only 4.5 per cent in China, rather than the benchmark’s 18.4 per cent.
First State Global Emerging Markets Sustainability has an OCF of 1 per cent.
Performance of fund, sector and index over 3yrs
Source: FE Analytics
Whitechurch Securities' head of research Ben Willis adds: “We prefer bottom-up, preferably contrarian, stockpickers but generally we are looking for experienced management teams that can evidence a good track record.”
He rates Richard Titherington’s JPM Emerging Markets Income fund, which sat in the third quartile in 2013 but has put in first quartile performance over 2014 so far.
It launched in September 2012 so does not have a three-year beta, alpha or tracking error score.
Willis likes this fund because it is the OEIC version of Titherington’s investment trust and employs the same philosophy, which achieved first-quartile returns in 2011 and 2012 before slipping into the second quartile in 2013.
The trust has a beta of 0.65 and alpha of 8.31, sitting alongside an 11.5 tracking error.
JPM Emerging Markets Income has an OCF of 1.68 per cent.
