Those seeking higher risk and return often invest in emerging markets. They’ve become the standard asset class for those seeking more impressive gains over the long-term.
The term “emerging markets” involves dozens of countries and every sector you could possibly think of though. Generalizing them is impossible.
For example, Malaysia is on the verge of becoming a developed nation. They have a GDP per capita of $27,000 which is almost four times greater than the Philippines. Yet both places fall under the same vague “emerging market” umbrella.
Likewise, an Indonesian oil company has much different long-term prospects and risk than a retail business in Thailand. It’s easy to understand why different emerging market investments can vary widely in their performance and results.
These fast growing countries still have some of the greatest opportunities on the planet though. Here’s the right (and wrong) ways to invest in them.
The Wrong Ways to Invest in Emerging Markets
A few stock traders who’ve never even been to the developing world put out misinformation on the internet. I’ll help dispel some myths before telling you how to invest in emerging markets.
One widespread piece of bad advice is that you should buy ETFs (exchange traded funds) or mutual funds which focus on this part of the world. These assets are easily-tradable and the two simplest ways to invest in developing countries. But they’re also probably the worst.
There’s several reasons why you should stay away from these funds. Perhaps most important is that they don’t actually invest in emerging economies.
Yes, you read that correctly. Lots of emerging market mutual funds and ETFs don’t even live up to their name and are blatantly misclassified. They consist largely of stocks in developed nations.
The largest such ETF in the world, iShares MSCI Emerging Markets (NYSEARCA:EEM), has over 30% of its holdings in developed economies. Two out of the three top countries they invest in are South Korea and Taiwan. Places like Poland, Qatar, and the Netherlands are somehow on their list too.
China also takes up more than 30% of this ETF’s holdings. There’s now over $36 billion dollars in this fund even though it mostly invests in developed nations and China.
Emerging market funds and ETFs are convenient. They’re the most common ways people invest in this part of the world. However, you should probably stay away from them.
Buy Emerging Market Stocks Locally
If you shouldn’t buy mutual funds and ETFs, that leaves you with direct investment in emerging markets.
Moving somewhere like Cambodia and starting a business is often the best (and hardest) way to invest in high-growth economies. Buying property in strategic locations can also lead to strong gains over the long-term, bringing you both rental income and appreciation.
But we’ll start off with the easiest way you can invest directly in emerging markets: buying individual stocks. To be clear, that’s in contrast to buying them through a mass-market fund or ETF.
You can buy individual stocks in Asia, South America, and elsewhere without leaving home since most brokerages offer international trades. Charles Schwab and Fidelity, two of the largest American brokerage firms, allow trading in over a dozen countries.
A few emerging market stocks also list themselves in countries other than where they’re based. For example, China Mobile (NYSE:CHL) is traded on both the New York Stock Exchange and Hong Kong’s. Baidu (NASDAQ:BIDU) is listed solely on the NASDAQ and isn’t traded on Chinese exchanges.
With all that said, we think making international trades using local accounts is best. Your existing broker might let you trade in other countries. But you should still put forth some effort and open local brokerage accounts in the places you’re investing in.
International trade commissions are as high as 10 times the normal amount.
That’s because brokers usually charge outrageous fees for international trades. For example, US-based Charles Schwab charges HK$250 if their clients want to buy or sell stocks in Hong Kong. Local firm Boom Securities charges HK$88 for the same trade.
Plus, buying shares of multi-billion dollar firms listed in New York counteracts many reasons you should invest in emerging markets. Stocks like Baidu have poor valuations, are over-analyzed by every bank on Wall Street, and aren’t the types of hidden gems which will make healthy returns.
Invest in High-Growth Economies the Right Way
Buying equities is certainly a great way to invest in emerging markets if done correctly. Places like Vietnam and the Philippines have tons of undervalued small-cap stocks which barely see analyst coverage.
However, setting up your own business or purchasing real estate in these countries is even better.
The reasons are similar to why small-cap stocks in Vietnam have more potential than China Mobile in New York. Easily-accessible markets are flooded with players like Goldman Sachs and every other large institutional investor.
Hedge funds and banks spend billions of dollars on highly-paid analysts and complex software. These firms will buy any stocks which have true, mathematically-proven value before you even know the opportunity exists.
Morgan Stanley isn’t looking at apartments in Manila though. “Regular” investors can still find value in emerging market property before everyone else does.
Similarly, places like Cambodia lack basic businesses which you might take for granted in your home country. There aren’t any drive-thru car washes, 7-Eleven convenience store chains, or e-commerce players yet.
Entrepreneurs have lots of opportunities in emerging markets, and especially frontier markets, because of this.
We understand that not everyone can make a trip to Indonesia and spend time buying real estate or starting a company. Yet that’s part of the reason why these methods are profitable. Barriers to entry keep institutional investors out and valuations attractive… you just need to break through them.
Another important thing to remember: not all emerging markets are growing quickly. Here’s three of them which you should avoid.
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