I have known for some while now that much of the growth in the world is no longer coming from countries with advanced economies like the United States. What I did not know however is just how far emerging and developing markets have come. After sitting in on a recent presentation by DoubleLine portfolio manager Jeff Sherman, I realized that investors can no longer afford not to ignore investing in emerging markets.
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Here are 3 reasons why:
Reason 1: Emerging Markets will soon represent more than 50% of world GDP.
As little as 30 years ago, the world’s economic output, as measured by Gross Domestic Product (GDP), was dominated by advanced economies (black line in the below chart). Since the early 1990’s however, advanced economies have been steadily losing ground to emerging and developing economies (red line in below chart).
In fact, by the IMF’s estimates, the economic output of emerging and developing economies is set to overtake that of advanced economies next year. As an investor it does not seem wise to ignore the countries responsible for more than 50% of the world’s economic output.
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Reason 2: Emerging and Developing Economies Account for the Majority of the Growth
There is a simple reason that emerging and developing economies are overtaking advanced economies in terms of world economic output. That’s where most of the growth is coming from. Particularly as an equity investor, it seems unwise to ignore investing in emerging markets, because that’s where the majority of the growth, and therefore stock market appreciation is likely to be.
Reason 3: Developing and Emerging Markets have the lowest debt loads.
The public debt of advanced economies has exploded in the last 30 years. Currently the average debt load of advanced economies is equal to around 110% of GDP. At the same time that many advanced economies are losing control of their finances, emerging and developing economies are getting their houses in even better order.
The average debt load of emerging and developing economies is only around 35% of GDP and has been falling steadily in recent years. This means that there is plenty of room for increased consumption in these economies. This also means that there should be plenty of room for additional growth in these economies for years to come.
How much of your portfolio should be invested in emerging/developing markets?
As emerging and developing will soon represent over than 50% of global GDP, I think you can make the argument that up to 50% of a portfolio should be invested in these markets. This line of thinking may cause investors to miss an important point however. Many of the companies that operate here in the United States get a significant amount of their business from overseas, and specifically from emerging and developing markets. So if you are investing in the stocks and bonds of large cap companies here in the United States your portfolio already has some exposure to these markets. With this in mind I think a reasonable amount to consider investing in these markets directly is around 25% of a portfolio.
How can you get exposure to emerging and developing markets?
There are some strong arguments to be made for picking and buying individual bonds and stocks when investing here in the US. When investing in international markets however, and especially when investing in emerging and developing markets, it is almost always best to go through an actively managed fund. The added advantage of a manager who understands the local markets, and the costs savings you will gain from superior execution than you are going to be able to get as an individual, almost always make going through a fund the right choice.
For those looking for emerging and developing market bond exposure, we recommend checking out the TCW Emerging Markets Income I Fund (Ticker: TGEIX) and the Columbia Emerging Markets Bond K (Ticker: CMKRX). For those looking for exposure to emerging and developing market equities, which recommend checking out the Oppenheimer Developing Markets A (Ticker: ODMAX) and the American Funds New World R6 (Ticker: RNWGX).