With valuations at or near record highs across the world there is one market left that remains cheap – emerging markets. 
Jason Hollands, managing director at Tilney Group, said that is down to a number of short-term reasons, not least the geopolitical aspects associated with developing markets.
Hollands used the CAPE – or cyclically-adjusted price earnings – ratio aa a yardstick for assessing whether markets were expense, fair value of cheap.
This measure considers share prices in relation to inflation-adjusted earnings across a cycle and was compared with the longer-term average.
As the below chart shows, the emerging markets are on a CAPE of 13.4x while global equities as a whole are on a ratio of 23.05x earnings.
CAPE of major equities markets
Source: Tilney Group
“In a nutshell, the table [above] shows that global emerging markets is now the only region which is ‘cheap’ – on this measure – both compared to their longer-term average and also relative to other regions at the moment,” Hollands (pictured) said.
“While you might expect emerging markets to trade a discount to reflect their riskier natural, let us not forget that several years ago investors were actually prepared to pay a premium for the higher GDP growth rates on offer for accessing emerging markets.”
However, this is no longer the case as investors have grown cautious about a number of external factors that he believes are for the short-term.
“The discount for emerging markets has actually widened over the last month, reflecting in part renewed concerns about trade wars and alongside this general risk aversion,” said Hollands.
“Although jitters around trade wars and rising borrowing have been a short-term factor impacting emerging market equities, I don’t believe these have been shunned per se.”
The other area that has been cheap on this metric in recent years has been the UK, but it has recently passed its longer-term average and is no longer at a discount relative to historic levels.
“Both retail fund investors and international investors have largely avoided the UK for most of the last two years, but this has created a valuation anomaly at a time when the economic data has been more resilient than consensus forecasts predicted,” Hollands said.
“Rising wage growth and inflation receding faster than expected have been particularly positive signals recently, indicating pressure on household budgets should ease and lead to a boost to consumer spending which should prove supportive in the second half of the year and beyond.”
As such, UK equities have probably come onto the radar of marginal buyers, such as contrarian and value investors, he added, while increased corporate activity has possibly also been a factor.
Hollands said there may be more growth to come from the UK, with potential to both the up- and downside from the success or lack thereof of Brexit negotiations between the UK and the EU.
A bigger change will be noticed if negotiations are positive, as this could mean managers bring allocations closer to strategic weightings, which at the moment are quite low.
Yield on major equities markets
Source: Tilney Group
However, as noted, the UK is no longer cheap relative to historic levels, reflected in the fact that yields have come down a little over time while they have risen in other markets.
As such, while UK market is now no longer at a discount to longer-term trend, it remains a relative value play compared to other developed markets, Hollands said.
However, for those looking to take advantage of a truly cheap market, emerging markets are the best option.
“For value seekers who are willing to take a long-term view, now could present a good entry point,” Hollands said.
Valuations look attractive despite the MSCI Emerging Markets index outperforming the developed market-focused MSCI World index over the past two years by 17.08 percentage points.
The Tilney managing director said: “Indeed, the consensus has increasing become more constructive on emerging markets over the last year. The discount reflects that factor that earnings have accelerated more rapidly than prices.”
He recommended either the Fidelity Emerging Markets or MI Somerset Emerging Markets Dividend Growth for those investors looking to take advantage of the valuation opportunity.
Performance of funds over 5yrs
Source: FE Analytics
Fidelity Emerging Markets is a four FE Crown-rated fund run by FE Alpha Manager Nick Price since March 2010 which has recorded a top quartile performance in the IA Global Emerging Markets sector over the past five years.
The £2.4bn portfolio focuses on capital growth rather than income, focusing on countries experiencing rapid growth.
It is most overweight Russia while underweight Korea and Taiwan and has a focus on financials and consumer discretionary stocks while holding a below-average weighting in technology firms.
The fund has a clean ongoing charges figure (OCF) of 0.96 per cent.
MI Somerset Emerging Markets Dividend Growth is a £1.3bn fund managed by FE Alpha Manager Edward Lam and deputy Edward Robertson.
The fund aims to achieve both capital growth and income and is mainly overweight financials with technology and consumer staples rounding out its top three largest sector weightings.
It is overweight Korea (18.1 per cent) as well as India (10.1 per cent) while materially underweight China (0.9 per cent).
The portfolio has produced third quartile returns in the sector over five years and has lagged the MSCI Emerging Markets index by 6.85 percentage points.
MI Somerset Emerging Markets Dividend Growth has a dividend yield of 1.3 per cent and an OCF of 1.14 per cent.