Emerging Markets isn't a Growth Proxy

Research over the last 100 years will tell us that GDP Growth isn't synonymous with equity market returns. In fact the correlation may actually be negative. However, as investors we consider allocations to Emerging Market biased portfolios to generate above average returns for taking on increased levels of sovereign, geopolitical, regulatory and currency risks.

There are some obvious flaws when investing in Emerging Markets to capture this return premium. The domicile of a company doesn't necessarily equate to when the company's revenue is generated. Take for example Samsung, which is listed in South Korea, generates 90% of its revenue overseas (over 50% from North America and Europe). Hardly an emerging market stock, yet a significant part of the MSCI EM at over 4%.

The large liquid companies which form the top 70% or more of the MSCI EM tend to have the following characteristics:

• Strong entrepreneurial background and growth tracjectory over the past 5-10 years
• Increasing global share in their revenue pie
• Increasingly mature growth profiles, which are finding their niche in the global competitive marketplace
• Higher correlation to Developed Markets (MSCI World / MSCI EM exhibit high correlation between 0.8 - 1).

Given this scenario, perhaps it is worth questioning what is the most appropriate way to harness growth from emerging economies in an investment portfolio. Most investment portfolios already have exposure to companies like Google, Amazon, Microsoft, Nestle, Proctor & Gamble, Unilever, GlaxoSmithKline etc. These companies provide already "market-priced" exposure to global growth, harnessed through their emerging market consumers.

How does one invest in companies which are under-researched (mis-priced relative to their growth prospects), experiencing strong entrepreneurial-led accretion in value, but are largely single economy stocks, thriving from local demand dynamics? These companies are likely to be growing at multiples of the general level of economic growth in the country/region. They are also unlikely to be correlated to the global economic environment or even the more specific macroeconomic conditions applying to their country/region. Common traits include being driven by local thematics, management and competitor pricing and strategy - truly micro !

Markets like India produce a significant number of emerging growth companies (6,000 listed companies), which if invested in early, alongside seasoned investment professionals operating within the ecosystem, can provide a substantial investment return contribution to a portfolio. When considered as part of the portfolio this provides strong growth with diversification, particularly to the AAA trade we all know so well - Aussie Equities, Aussie Property, Aussie Dollar!

After all isn't growth investing about identifying the earnings trajectory of a business before everyone else does?