Majority of EM funds underperform

While Asia-Pacific accounts for around 60% of the emerging markets benchmarks, 63 out of 163 global emerging market funds (38%) allocated less than 60% to Asia-Pacific.

Funds that allocated at least 60% of their assets in the region performed slightly better compared to those that invested less than 60%, however more than half of them still underperformed the index on a one-year, three-year and five-year basis, ending 30 April.

 Performance vs the MSCI EM Index, measured in US dollars

 Source: FE Analytics

There are indications, however, that increasing allocation in the Asia-Pacific region may help capture slightly more returns. According to FE data, a bigger percentage of funds outperformed the index and their average returns were also higher if they allocated more than 70% of assets in the region. 

Source: FE Analytics

Performance vs the MSCI EM Index, measured in US dollars 

There are around 34 funds that have allocated more than 70% of their assets in Asia-Pacific, the data shows.

Difficulties of EM investing

James Cheo, an investment strategist at Bank of Singapore, is not surprised by the number of emerging market funds that are underperforming. 

“Emerging markets investing is actually more challenging because there is a greater information asymmetry. Most companies are not covered as much, compared to developed markets,” he told FSA.

In addition, emerging market equity fund managers may face lower liquidity and more political risks, he added.

When choosing emerging market funds, Cheo said that he looked at whether a fund had consistently beaten the benchmark for a period of 10 to 15 years. 

Since the region is a mix of developed, emerging and frontier markets, he said he liked managers who specialised in one or two different markets, such as those that covered China, Korea or Taiwan.

Cheo also believes that fund managers with on-the-ground capabilities in the region have more advantages than those who are based outside the region.

For example, it is easier for Hong Kong-based analysts or managers to contact China-based companies. “Most of them know the companies very well,” he added.

Does fund domicile matter? 

The analysis only included funds that are domiciled outside of Hong Kong and Singapore. 

There are only seven global emerging market and BRIC funds that are domiciled in either Hong Kong or Singapore, according to FE data.

The average returns of these funds, which also underperformed the index in all four periods with the exception of the one-year period, indicate that the domicile or the legal structure are not factors in determining how a fund will perform in the future. 

 Source: FE Analytics 

Roger Bacon, head of investments for Asia-Pacific at Citi Private Bank, said at Fund Forum Asia 2017 last month that his starting point when choosing a fund was not its legal structure.

“The first task is to identify best of breed differentiated alpha source, work through it, understand whether it is repeatable, whether it is consistent, and that is our core building block,” he said.

The legal structure only comes in second after identifying the best funds, to determine whether the product can be sold in a particular market.

Bank of Singapore’s Cheo echoed Bacon’s sentiments with respect to the fund structure.

“It would not affect the fund manager’s performance. It’s more of a regulatory point of view of how a fund could be sold, so it’s a small factor when it comes to fund performance.”

Best and worst performing funds on a one-, three- and five-year basis ending 30 April, according to FE data.