Morningstar Advisor - December 2013/January 2014 - (Page 36)

Spotlight Knowing Where to Look By Rob Wherry After several years of mixed returns, investors are rethinking how they get exposure to emerging markets. The approach into Wilson airport in Nairobi, Kenya, seemed normal enough to Laura Geritz, the lead manager of the Wasatch Frontier Emerging Small Countries WAFMX, at least until the wind picked up. Geritz, who was seated behind two co-pilots on the tiny 11-seater plane, watched as it was pulled to the right by a strong cross wind just as one of its three tires blew. The plane would have completely veered off the runway if it wasn't for the quick thinking of the lead pilot, who jerked it back on to the pavement. Geritz downplayed the situation in her shareholder letter a few months later since she and several colleagues walked away unharmed. But there was a tense moment or two. "One of the pilots was in training," she says. "I could see his eyes pop wide open." Geritz and team were in Kenya as part of a broader trip through Africa. On these due-diligence trips, there is a singular goal in mind: Find quality companies in developing markets with sturdy balance sheets, good management teams, and attractive valuations. In most cases, the team is laying the groundwork for eventually investing in a company three or five years down the line. But there hasn't been a shortage of good ideas they've put to work now. During its 20-month lifespan, the fund has gained an 36 Morningstar Advisor December/January 2014 annualized 28.5% through Oct. 31 versus 12% for the MSCI Frontier Emerging Markets Index thanks to strong performers such as East African Breweries, a distiller and distributor of beers and spirits, and Vietnam Dairy Products, one of the largest dairies in Asia. "What many emerging markets were 10 years ago," says Geritz. "You have that happening in frontier markets right now." That pronouncement likely resonates with a lot of investors. Traditional emerging markets such as China and Brazil have been relative disappointments the last few years due to a combination of slowing economic growth, rising inflation, and concerns about the side effects of U.S. monetary policy (which was behind a sell-off earlier this year). That pullback has coincided with a recovery of performance in developed markets such as Japan and the United States. While investors aren't completely dumping their holdings in emerging markets, they are contemplating whether they need complements for the countries that provided a powerful performance punch the last decade. "The last two years emerging markets have been a significant drag," says Stephen Barnes, founder of Barnes Investment Advisory in Phoenix, Ariz. "But if you don't have [exposure to them] you are missing the boat." While Barnes may be right, it may not be enough to just have exposure. Indeed, to advisors such as Barnes the story line isn't about buying big state-controlled oil or finance companies on the cheap or simply scooping up a market capitalizationweighted emerging-markets index fund. Now, investors are looking for ways to get direct exposure to rising middle classes around the world that are spending the wealth they have accumulated. That theme isn't new. But what is are the means to do it: Funds that invest down the market cap spectrum, across more sectors, follow alternative strategies and invest in countries that ten years ago would have been deemed too risky. The money trail is telling. Emerging-markets ETFs, which are largely owned by institutions, have endured mixed net flows in 2013. Vanguard FTSE Emerging Markets VWO and iShares MSCI Emerging Markets EEM ETFs, two of the five largest ETFs, have seen roughly $4.9 billion and $2.5 billion leave coffers this year, respectively, through Oct. 31. Those funds still tower over the emerging-markets category. But investors also have been gravitating toward funds such as iShares MSCI Emerging Markets Minimum Volatility EEMV. This ETF tracks an index of 200 stocks from the broader MSCI Emerging Markets Index that together make for a low-volatility portfolio. It has taken in $2 billion this year through Oct. 31. IShares

Table of Contents for the Digital Edition of Morningstar Advisor - December 2013/January 2014

Morningstar Advisor - December 2013/January 2014
Letter From the Editor
What’s Your Purpose?
Working for Gen Y
How to Allocate College Savings
Mobius Looks to a New Frontier
Investments á la Carte
Investment Briefs
How to Manage Bonds for Today and Tomorrow
Cloud Is the New Engine of Growth
Knowing Where to Look
Economic Vulnerability Varies by Country
Factor Investing in Emerging Markets
Following the Rules
Exploring Indexing’s Next Frontiers
Frequent Fliers
Family Blind Spots
Optimal Portfolios for the Long Run
Finding Value in a Pricey Sector
Our Favorite Mutual Funds
50 Most-Popular Equity ETFs
Undervalued Stocks With Wide Moats
The Emerging-Markets Roller Coaster

Morningstar Advisor - December 2013/January 2014