Legal & General Investment Management (LGIM) says long-term investors remain under-invested in emerging markets and do not use the opportunities at hand.

Over the last couple of years emerging market equities have underperformed equity returns in the developed world. This despite the fact that economies in the developed world have been struggling, while many emerging market economies have continued to grow, albeit at a reduced pace. 

This, said L&G's global equity strategist Lars Kreckel during the firm's monthly Fundamentals briefing, are good reasons to be bullish about the prospects for emerging market equities. Especially at a time when many pension schemes continue to be underweight when it comes to emerging market despite recent trends in geographical diversification.

"After two successive years of relatively poor performance, increased doubts surrounding emerging markets are understandable. In the long term however, to disregard an allocation to emerging markets would be at the investor's peril as the drivers for growth remain in place" Kreckel stated.

GDP growth prospects in emerging markets will continue to beat advanced economies in the future, and over the long term this should translate into superior equity returns. Another supporting driver of the LGIM view is that risk associated with emerging market investments is in decline.

"The growing international diversification of emerging market corporations should help to reduce the cyclicality and risk of earnings streams" explained Kreckel. "In addition, emerging markets are better positioned then their advanced counterparts in de-leveraging terms, with public debt a much smaller proportion of GDP."

Kreckel argued that emerging markets continue to be under-represented in global benchmarks. "Emerging markets contributed about 39% of global GDP in 2011, but they represent only about 14% of the MSCI World index. Yet many investors remain under-invested even against this low weighing, and in the long term, we see pressure on investors to increase emerging market allocations."

The strategist also feels optimistic on a shorter-term basis. "The current levels of emerging market equities represent a particularly attractive entry point for long-term investors wishing to avoid the low growth environment offered by developed markets".

"Since the start of 2012, the MSCI World Index is up 11%, but emerging market relative performance has not budged, and has actually underperformed since the end of June. Such de-couplings have happened before, but have not proved sustainable. If our view on emerging market growth proves correct, this gap should ultimately close in favour of emerging market equities."

LGIM expect emerging market data to continue disappointing through the third quarter, but expect this to mark the trough, with a re-acceleration in growth towards the end of 2012 with forward-looking data and leading indicators signalling a stabilisation and improvement in growth.

First published 05.09.2012

azeevalkink@wilmington.co.uk