Emerging market investors at risk of playing too safe, says AllianceBernstein

Investors who are taking a cautious or defensive approach to emerging markets because of concerns about slowing economic growth in the sector are at risk of missing a major opportunity, global asset manager AllianceBernstein said today.

“Emerging markets have largely missed out on the risk rally seen in developed markets over the last two years, but this situation is unlikely to continue indefinitely, in our view,” said Henry D’Auria, the firm’s New- York based Chief Investment Officer—Emerging Markets Value.

One of the reasons for emerging markets’ underperformance is an apparent weakening of the economic linkages between emerging and developed markets, which has resulted in emerging markets responding more slowly than usual to improving activity in the developed world. Consequently, emerging-market investors have remained invested in relatively safe and predictable stocks, to the extent that their equity portfolios are now overpopulated with expensive, defensive investments.

“Nearly two-thirds of actively managed emerging-market equity portfolios are in stocks trading at premiums to the market of 10% or higher, with the largest portion skewed to those with premiums above 20%,” said D’Auria. “This is a big change from the past, when dispersions have usually been much more even.”

The risk to investors is that, by remaining overly defensive, they may miss the opportunity that AllianceBernstein now sees building in emerging-market value stocks. According to D’Auria—who is visiting Australia this week to meet with clients—the opportunity is unusually attractive.

“Value has underperformed in emerging markets for some time; as a result, the opportunity is dominated by long-neglected high-beta, cyclically sensitive stocks. This makes the opportunity far more sensitive than usual to broad emerging-market economic trends.”

Despite recent rebounds, these high-beta stocks continue to sell at some of the deepest discounts to overall emerging markets in more than 15 years. “They are extraordinarily cheap versus low-beta, defensive stocks, which are trading near record premiums,” said D’Auria.

“Of course, much will depend on how emerging-market economies progress next year, but forward-looking indicators suggest that emerging-market activity is finally getting the boost from the developed-world recovery. Emerging-market investors need to consider the risks of overplaying the safety card. We think a rebalance to value is in order.”