Even as the US moves towards passive investing and indexing approaches, it appears that institutional investors will need to be more focused on an active investment approach to their emerging market equities investments in future.
Based on a survey of institutional investors, Oppenheimer Funds and Greenwich Associates report that economic development in emerging markets will be led by rising levels of education, infrastructure investment, and innovation. Investors see this shift from an “old economy” to a “new economy” as creating fundamental market change.
“Institutional investors see the evolution of emerging market countries from resource-based, commodity-dependent economies to more diversified and dynamic economies as the dominant trend for the next decade,” according to Andrew McCollum, a Greenwich Associates managing director. “As that transformation takes hold, investment managers’ ability to generate alpha will require a much more integrated investment process that focuses on bottom-up fundamentals but blends top-down macroeconomic and political perspectives.”
As emerging markets transform from resource-based economies focused on commodities, energy, and manufacturing to more diversified economies, there will be more of an emphasis on picking the right companies to invest in, rather than a broader country focus. Sectors such as healthcare and technology will be more in evidence in emerging markets. And economies that have been more export-focused will also get a boost from domestic demand, with the expansion of the middle class, making for growth in consumer goods industries.
This shift in the emerging markets makeup will call for a greater emphasis on bottom-up fundamental analysis. While the bigger macroeconomic picture and geopolitical factors will still be important, the previous approach of rotating country exposure and focusing on the mostly state-owned enterprises that tend to make up a majority of a country’s market valuation is changing to more detailed knowledge of each country’s market, and the companies and industries it encompasses.
That’s why 78% of the US institutional investors surveyed expect that in the next 10 years, their emerging markets exposure will be in the form of active strategies rather than more passive strategies. And nearly 25% of endowments, foundations, and corporate pension plans with assets under management below the $1 billion threshold anticipate hiring an emerging-market equity manager in the next year, along with about 20% of public funds at the same asset size.
In addition, 31% of US investors and 85% of European investors expect that they will consider environmental, social, and governance (ESG) aspects in their analysis of emerging-markets investments.
The survey included 121 US and European institutional investors, such as corporate pension funds, public pension funds, endowments, and foundations.