The role of emerging markets for the long term
Emerging markets are frequently misunderstood. Sensational headlines about volatility or isolated events in individual emerging market countries often capture outsized media attention and cause many investors to avoid the asset class entirely. And while emerging markets certainly aren’t free from bouts of volatility, the potential benefits should be weighed against the risks, particularly over the long haul. For many investors, a long-term allocation to emerging markets can potentially provide the growth necessary to help meet their investment goals. Current low valuations (both on a relative and historical basis1) could indicate an attractive time for investors to establish a core position in emerging markets.
Emerging markets: potential growth engines
Emerging economies have expanded rapidly in recent years. Emerging markets now represent 52% of global population and generate 39% of the world’s output.2. Long-term investors in these markets have seen significant growth over the past 15 years, as illustrated in the figure below.
Hypothetical Growth of $10,000 since January 2001
Source: Data from Bloomberg as of 7/27/15, calculation by BlackRock. Index returns from 1/1/2001-6/30/2015. Index returns are for illustrative purposes only. Index performance returns do not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.
While growth rates for emerging and developed markets alike have been in adjustment mode following the global financial crisis in 2008, emerging markets are projected to continue to grow more quickly than their developed counterparts. The IMF projects GDP growth of 5.3% for emerging markets by 2020 –more than double its projection for developed markets.3
A meaningful diversifier
Most investors understand the potential benefits of diversification. However, in practice, many do not fully embrace the concept. While diversification across individual securities and even different asset classes is fairly widespread, a significant tendency to invest close to home exists. In fact, the average international allocation for U.S. investors is only 17%,4 despite accounting for 49% of the global stock market. Since U.S. and international stocks (both developed and emerging markets) typically have alternating cycles of outperformance5, diversifying across geographies can potentially help reduce overall portfolio risk while capturing additional growth potential. Investors who are still concerned with volatility should note that emerging markets are not as volatile as they once were, particularly relative to developed markets.6 The graphic below illustrates this home bias typical of many U.S. investors.
Home Bias Toward U.S. Based Mutual Funds
Source: MSCI, as of 06/30/15
Consider a long-term emerging markets allocation
Emerging markets make up 10% of the global stock market7. Consider using this as a benchmark allocation size and adjusting up or down based on your risk tolerance and investment objectives.
|1.||MSCI and Standard & Poor’s as of 9/30/15, comparing MSCI Emerging Markets Index, MSCI EAFE Index, and S&P 500 Index.|
|2.||Central Intelligence Agency, as of July 2014.|
|3.||International Monetary Fund, World Economic Outlook, as of April 2015.|
|4.||Morningstar, as of 6/30/14. Assets based on the subset of U.S. domiciled mutual funds. Broad International' subset is comprised of Morningstar's 'Global Equity', 'Global Equity Large Cap' and 'Global Equity Mid Cap'. Country and regions specific categories were excluded from the universe.|
|5.||Bloomberg, as of 12/31/14 based on annual returns of the S&P 500 Index and the MSCI All World ex U.S. Index.|
|6.||MSCI, as of 06/30/15 based on volatility over past 20 years relative to developed markets.|
|7.||MSCI as of 6/30/15, based on the market capitalizations of the MSCI Emerging Markets Index and MSCI ACWI Index.|