Emerging markets have been a contentious topic of late, with analysts split on whether they will continue to outperform having been this year’s strongest riser, or will revert back to the trend seen in the five years before the start 2016, when they significantly underperformed developed markets. 
While emerging markets have come back into favour this year, Jason Hollands, managing director of Tilney Bestinvest, says investors should be wary of this outperformance continuing in the short term.
“While we believe emerging markets undoubtedly hold out long-term opportunities there are real risks in the near term and so investors should tread with care in chasing the recent rally,” Hollands (pictured) said.
Performance of indices in 2016
Source: FE Analytics
As the graph above shows, emerging markets have been the strongest performing market so far this year, beating the next closest S&P 500 by 9.44 percentage points.
Despite this, Hollands says investors should tread carefully if wishing to take advantage of 2016’s best performing market.
“Those inclined to invest in these markets might consider a phased approach that drip feeds cash in over a period of several months to help mitigate potential volatility,” he said.
With this in mind, below he suggests four funds investors may wish to look at for exposure to long term emerging market growth.
The top pick of Hollands, the five crown-rated Fidelity Emerging Markets fund run by FE Alpha Manager Nick Price, has been a consistent performer in the sector for many years due to Price’s highly selective process and focus on quality, underleveraged businesses.
As the below graph shows, the fund has returned almost double the sector (IA Global Emerging Markets) average over the last five years and has beaten its benchmark (the MSCI Emerging Markets index) by more than 20 percentage points.
Performance of fund vs sector and benchmark over 5yrs
Source: FE Analytics
Over the last five years the fund has been one of the least volatile in its sector, though it is worth noting that emerging market funds are traditionally more volatile than other asset classes.
It is also top decile for maximum drawdown – the amount an investor would have lost if buying and selling at the worst possible times – though at 17 per cent this is still higher than many other sectors.
Research house Square Mile says the £1.38bn fund is “a solid choice for investors seeking a broad exposure to emerging market equities.”
Somerset Emerging Market Dividend Growth
Next on the list is FE Alpha Manager Edward Lam’s £1.16bn Somerset Emerging Market Dividend Growth fund.
Hollands said the fund offers “a more conservative approach focused on businesses delivering a sustainable yield.”
Launched in 2010, the fund has been among the best performers in the IA Global Emerging Markets sector since launch.
The fund has returned 46.25 per cent since launch, placing it in the top quartile, while it has also been the least volatile in the sector over the period on a monthly basis.
It has the lowest maximum drawdown (15.02 per cent) and has the third highest Sharpe ratio (0.23 per cent) – a measure of risk-adjusted returns – making it a strong option for investors looking to relatively minimise their risk.
Earlier this month, Chelsea Financial’s Darius McDermott said he was a ‘fan’ of the fund, adding that its income focus makes it an attractive option for investors.
JP Morgan Emerging Markets Investment Trust
The £864m JP Morgan Emerging Markets Investment Trust, run by Austin Forey, is one for fans of investment trusts to consider, according to Hollands.
“[The fund] has a major position in favour of India, which we see as a relative bright spot, benefitting from low oil prices (it is a net importer of oil) and where the Government has recently managed to get approval for a unified Goods & Service Tax which should simplify its tax system and lead to greater efficiency,” he said.
The trust has been one of the top performers over one and three years, and has been a second quartile performer over five years.
Performance of trust vs sector over 5yrs
Source: FE Analytics
As the above graph shows, the trust has beaten the IT Global Emerging Markets sector over five years, returning 39.53 per cent.
Over the period, despite a highly volatile 2016, the fund is among the least volatile in the sector (15.61 per cent), though this is still higher than the sector average, and has a lower maximum drawdown.
It currently trades on a 12.7 per cent discount to net asset value, is zero per cent geared, and has a 1.16 per cent ongoing charges figure.
iShares MSCI Emerging Market Minimum Volatility ETF
Of course, investors may wish to go down the passive route in emerging markets, which have outperformed their active counterparts over recent years.
Over the last 10 years, the IA Global Emerging Markets sector (a proxy for active funds) has underperformed the MSCI Emerging Markets index by 16.06 percentage points. As such, Hollands says the iShares MSCI Emerging Market Minimum Volatility ETF could be a good option for more risk-averse long-term investors.
“For ardent advocates of passive strategies, a more cautious option than a traditional tracker is the iShares MSCI EM Minimum Volatility ETF,” Hollands said.
Performance of ETF vs sector and benchmark since launch
Source: FE Analytics
As the graph shows, the tracker has significantly outperformed its sector since it launched in 2012, returning 60.98 per cent over the period.
The tracker has been among the least volatile among its peers (14.61 per cent) and has the best maximum drawdown (11.87 per cent).
“This has circa 250 holdings but reweights the index to give greater prominence to less volatile stocks,” Hollands said.