Many ethical funds avoid investing in companies that are listed in emerging markets as they have less regard for socially responsible practices and lower standards of corporate governance. Charlie Thomas, head of environmental investing at Jupiter, says this helps to prevent investors from being exposed to financial risk.
"There are more and more companies in the emerging markets we can invest in that pass our criteria. We have reservations about them due to corporate governance issues."
"We see access to those markets through western companies selling into emerging markets as a better way of investing."
AWD Chase de Vere’s Patrick Connolly commented: "It’s an approach that many funds take, both ethical and non-ethical. M&G Global Basics, for example, is a fund that sees emerging market growth as a driver of the world economy, but seeks to exploit it through western-listed companies."
"Investors should have some exposure to emerging markets and it’s a case of deciding on the best way to get it. There are additional risks involved, such as corporate governance, political risks plus arguably there is higher currency risk."
"In theory it should be a lower risk and less-volatile way to invest, albeit with missing out on the most dynamic growth prospects."
"You are not going to avoid all risks, of course there are risks associated with western companies too."
Thomas stresses that shunning stocks listed in emerging markets does not mean avoiding exposure to these areas.
"Many of the companies we are investing in may be overseas companies listed in the UK market. Many of the companies we are investing in have exposure to the emerging market trends, primarily to the technology they have."
"Over time I would think we will have more exposure to those areas but as it stands today we keep that exposure low."
The risks of investing directly in emerging markets were highlighted by the public troubles of Anthony Bolton’s Fidelity China Special Situations investment trust.
Bolton ran into difficulties when it emerged that the directors of some of the companies he invested in had been acting fraudulently.
However, at least two of those companies were listed in the US, which shows indirect exposure does not guarantee stability.
Although his MSCI benchmark has performed poorly since the trust was launched, Bolton’s fund has underperformed, losing 28.59 per cent.
Performance of fund vs index since launch
Source: FE Analytics
Arjen Los, manager of the Dominion Chic fund, is one manager who invests in emerging markets through western-listed companies. He told FE Trustnet that it helped him to reduce the risk in his portfolio.
Kerry Nelson, managing director of Nexus IFA, says that the problem for many managers in emerging markets is that they do not know the region or country well enough.
"You have to be on the ground and the fund houses that succeed in emerging markets are those that have been there for years and have the knowledge and the understanding, like Aberdeen and First State."
"If you are going to expose yourself to those regions, you have to go to the tried and trusted and you want to go where there’s experience."
"Ideally you want some of the spicier exposure through direct investment as well. However, if you haven’t got a lot of money then it might be better to invest in those funds that invest in western companies with exposure to emerging markets."
"These days a lot of companies are global anyway, so by default have emerging market exposure."
This article was written in collaboration with and is sponsored by Jupiter Asset Management.