Yale Prof: How to Tap Emerging Markets

Emerging markets are best tapped through affiliates of developed market multinationals, research has shown.

(February 28, 2012)  —  High returns with lower than average volatility are possible from emerging markets through a certain subset of listed equities, according to a Yale professor.

Affiliate companies of large multinationals that are listed in developed markets produce a better return than independent, locally-listed emerging market companies, according to Martijn Cremers, Associate Professor of Finance at Yale School of Management.

Cremers said: “These affiliates combined the higher performance with lower volatility, and especially lower down‐side volatility. Their performance during the financial crisis was particularly good, compared to both their local markets and the developed markets, and especially so in Asia. We offer two main reasons for this outperformance: improved corporate governance and a stabilizing role of the parent companies.”

Cremer said these factors had seemed critical during the financial crisis and provided affiliates with “a clear comparative advantage over their local competitors that should endure in the foreseeable future”.

The paper showed emerging markets had generally outperformed developed nations in the 13 years to the end of June 2011. The MSCI index tracking emerging markets in Asia had risen 15.1%; in Europe, the Middle East and Africa it was up 14.6%; and in Latin America the index was up 19%. This compared to the MSCI World, tracking all countries, had risen only 5.2%.

Aberdeen Asset Management, which commissioned the study, said there were 92 such companies across the emerging world and drew the example of grocery producer Unilever. The company has listed affiliates in India, Indonesia and Pakistan in which it has stakes of 37%, 85% and 75% respectively.

Aberdeen said: “Over the thirteen years from June 1998 to June 2011, a period chosen for its balance between sample size and history length, the listed affiliates returned 2,229%. This compared with total returns of parents, local markets and parents’ markets of 407%, 1,157% and 147% respectively.”

Earlier this month, a research arm within Deutsche Bank warned that investing in emerging market-listed equities was no solution for investors seeking high returns. The paper, released by the bank’s ‘cash return on capital invested’ (CROCI) basis, said that despite annual GDP increases for many of these nations sitting comfortably in double digits, emerging market equities showed a lack of real earnings growth.

Peter Elston, Head of Asia Pacific Strategy & Asset Allocation, commented on the paper by Cremers: “While there will continue to be home grown success stories, the strong corporate culture of affiliates is a competitive advantage for the companies in this select group is hard to ignore. Opportunities in emerging markets are perhaps more attainable than ‘stay-at-home’ types think.”