Eight funds for emerging market exposure; and where else to invest

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Once again we catch up with our panel of leading multi-managers. We get their perspectives on where the best investment opportunities lie and hear their views on the most attractive ways to gain exposure in the coming quarter.

Rather than build their portfolios by investing in individual stocks or bonds, our experts invest largely or exclusively in investment funds and trusts, which leaves them well-placed to identify the strongest prospects.

In the wake of the Brexit vote, several are looking towards emerging markets and the attractive opportunities they currently offer investors, while some panellists retain an interest in an income theme - but the panel as a whole stresses that in times of uncertainty diversification remains paramount.

Emerging markets return to favour, but have investors missed the boat?

David Coombs, head of multi-asset investments at Rathbones

Emerging markets have had a rollercoaster ride over the past year. The prices of oil and other commodities have been sliding since 2014 and this year have remained in the doldrums.

As many emerging markets rely on natural resources exports for much of their revenue, this has been painful for them.

templeton-emerging-markets-versus-aberdeen-emerging-marketsAdding to the uncertainty, fear persists that China is approaching a growth shock as it tries to transform its economy from one driven by construction and heavy industry to one based on consumption. This has led to a fall in demand that has caused the commodity price slide.

There has been further concern that the US Federal Reserve will hike rates. It hasn't pulled the trigger so far this year, but emerging markets have looked vulnerable every time it has looked close to doing so.

A US rate hike would mean investors pulled capital out of foreign markets and redirected it to US markets, which are deemed less risky.

Another problem is that higher US rates would boost the value of the dollar relative to emerging market currencies.

That could catch out some developing market borrowers (governments or corporates), particularly if they receive revenue in their devalued local currency but have to repay debts in appreciating dollars.

The situation looks grim, but that is precisely why David Coombs recently added to his holdings in emerging markets. When investors avoid this area, it deflates prices and boosts yields.

He feels the extra return offered by emerging market debt is a compelling story at a time when the valuations of developed market bonds are high.

Coombs favours the Ashmore Emerging Markets Short Duration fund, a high-risk portfolio of corporate and sovereign bonds. More than 90 per cent of the portfolio has a credit rating lower than investment grade.

On the equities side, he likes the Aberdeen Emerging Markets investment trust, not least because its share price stood at a discount of more than 15 per cent to the value of the underlying assets in August and September.

Finally, Coombs holds the ChinaAMC China Opportunities fund. China has its problems, he says, but it is an enticing market for long-term investors.

The fund is run by a Hong Kong-based team that knows its region intimately. It is overweight in consumer and healthcare companies, and leveraging the huge consumer wave still building in China.

Ayesha Akbar, portfolio manager at Fidelity Solutions

'UK inflation is expected to rise to the highest level in the developed world, but inflation could trend higher in the US too.

'Core inflation has already met the US Federal Reserve's target on some measures, while commodity base effects and a tighter labour market could push inflation higher still,' says Ayesha Akbar. Given this, she thinks investors should consider some inflation protection in their portfolios.

She likes the SLI Global Index Linked Bond fund. It invests mainly in sovereign-issued and corporate inflation-linked bonds. It aims to run many small positions simultaneously, all of which should add to performance incrementally.

Akbar says it has a strong track record, and while co-managers Katy Forbes and Adam Skerry were only appointed in 2015, they have been involved with the fund since 2004.

While inflation may be rising in the UK and US, it remains weak in the eurozone, she adds. This has led the European Central Bank to keep monetary policy loose, providing a strong stimulus for the German economy.

She picks out the Baring German Growth Trust, which invests across German equity markets and has a long track record of performance versus the broader German market.

Robert Smith, the portfolio manager, seeks out small and medium-sized companies with robust management teams and strong shareholder relationships.

Emerging markets have seen a turnaround in sentiment in 2016, as commodity prices have bottomed and concerns eased over China and the strength of the dollar.

But while emerging markets could continue to do well, it's questionable whether these factors alone can continue to support emerging market outperformance.

Akbar likes the Fidelity Emerging Market fund, which offers more selective emerging markets exposure and is run by Nick Price.

The fund has lagged its index over the year to date, but this is indicative of Price's focus on quality names at a time when many poorly rated emerging market companies have outperformed. She believes his 'prudent bias and long-term track record should reassert themselves'.

Nick Greenwood, fund manager at Miton

Investors are fearful of the effects that changes in central bank policy and further fallout from the UK electorate's decision to leave the EU may have on UK equities.

In these circumstances, investment trust specialist Nick Greenwood says, it is sensible to look for concentrated portfolios where the manager has a focus on the future success of individual businesses.

The performance of the portfolio over time will be more correlated with those companies' earnings, rather than with the wider equity market. Importantly, investment trusts' closed-ended structure means portfolios are protected from inflows and outflows, allowing managers to be patient.

aurora-versus-mercantile-investment-trust-performanceUK-focused Aurora Investment Trust, managed by Gary Channon and his team at Phoenix, follows the legendary US investor Warren Buffett's value-driven philosophy and fits the bill in this respect.

The team uses the investment trust capital structure to the full, which allows it to build a high-conviction portfolio - the largest five stocks represent around 50 per cent of assets.

When it comes to residential property, Greenwood finds opportunities in Berlin through the Taliesin Property fund. Berlin has transformed itself from an urban wilderness into a major capital city within just one generation, he says.

While this shift has triggered a sharp rise in property values, prices started from a very low base - homes in the German capital cost around a seventh of their equivalents in London.

German 10-year government bonds offer a paltry yield of five basis points compared with Berlin apartments, which have generated average yields around 5 per cent.

Sentiment towards the Chinese autonomous island state and gambling hot spot of Macau has been dire over the past couple of years, says Greenwood.

A clampdown on corruption by the mainland government ensures that no self-respecting Chinese official can be seen anywhere near the former Portuguese colony.

But Macau's long-term ambition is to move away from its roots as a gambling den and follow a business model along the lines of Las Vegas.

While local casino stocks such as Wynn Macau and MGM China have already surged in value, the overlooked UK-listed closed-ended fund Macau Property Opportunities has yet to join the party.

Peter Hewitt, director and investment manager at F&C

Less than a year ago emerging markets were deeply out of favour, but that has changed; they are now recommended as a sector to own, says Peter Hewitt.

In general, prospects for emerging markets have improved. Although concerns over the banking system in China remain, growth appears to have stabilised, and with it the outlook for corporate profits, particularly in the Asia Pacific region.

In addition, valuations are attractive, following a long period of underperformance. Hewitt identifies two trusts that are well-positioned to capitalise on the improving prospects.

One is Templeton Emerging Markets. The trust has a new fund manager, Carlos Hardenberg, who has revamped the portfolio by reducing exposure to banks and commodity companies, and increasing holdings in the technology and consumer discretionary sectors. Performance has begun to pick up, says Hewitt.

The other trust is Genesis Emerging Markets Trust, which has a well-diversified portfolio and a good long-term performance record.

Another sector that has begun to perform, and where attractive valuations persist, is private equity. Many firms are run on a pan-European basis, so they have benefited from sterling's depreciation, which has enhanced their European holdings.

Balance sheets are much stronger, yet some trusts are still on wide discounts. HG Capital Trust, which is a holding in the F&C Managed Portfolio Trust, has a clear focus on the technology and services sectors and its assets appear to have strong growth prospects.

In terms of which sectors to avoid, Hewitt says the prospects for UK mid-cap trusts are a lot less clear for the next year. Should the UK economy slow down as anticipated, this will affect companies with a more domestic bias to their operations.

In addition the fall in sterling could well increase input or raw material costs if they are imported from abroad.

This could mean a squeeze in profitability for many more domestically oriented companies, which are more heavily represented in the FTSE Mid 250 index. Smaller companies may also feel the effects, but their ratings are much less demanding than those in the mid-cap sector.

However, for investors looking for an element of mid-cap exposure, he says Mercantile Investment Trust has a diversified exposure to the FTSE 250 index, a solid long-term performance record, and is trading on a 10 per cent discount.

Peter Walls, fund manager at Unicorn Mastertrust

Financial stocks have been under the cosh since the global financial crisis, but the outlook may be improving, Peter Walls says. The latest earnings reports from US banks were encouraging, and Walls believes interest rates look set to rise in the US and the UK before long.

Polar Capital Global Financials Trust appeals to his contrarian tendencies, as it offers exposure to an unloved sector that has been hit by litigation and increased regulation.

multi-manager-fund-picks-novemberThe trust's managers have performed well relative to the FTSE All-Share index since launch in 2013 and appear to be positioned for an improvement in sentiment.

Walls looks specifically at investment trusts for his multi-manager fund, so he is sensitive to discount movements, among other factors.

The year to date has been challenging for Fidelity Special Values Trust, another contrarian choice with a mid-cap bias, as value investing is out of favour and large companies have been outperforming mid and small caps, says Walls.

Unsurprisingly, its discount has widened to around 11 per cent, more than double its 12-month average. Even so, the longer-term record looks impressive compared with the UK market and the peer group.

The board of BlackRock Income Strategies Trust recently announced a strategic review. With the company's discount management policy on hold, the shares have moved out to a discount of 12.5 per cent. Walls says he looks forward to developments.

David Hambidge, head of multi-asset investment at Premier

One area that has struggled this year is the UK commercial property sector, says David Hambidge. Investors were rightly concerned that domestic commercial property could be adversely affected by the decision to leave the UK.

However, he believes it is worth taking another look and has been adding to some closed-ended holdings. He likes F&C Commercial Property, which is diversified by region, sector and tenant, and produces an income of close to 5 per cent (paid monthly).

The Coupland Cardiff Japan Income & Growth fund has produced strong returns since Hambidge mentioned it in these pages a year or so ago, although this is primarily due to a 30 per cent-plus devaluation in sterling versus the yen over the past 12 months.

Hambidge believes the fund should continue to deliver an attractive and growing income stream, suggesting that the sterling hedged share class - which will protect against any reversal in the exchange rate, however unlikely that may seem at the moment - may prove to be a good option for investors.

The NB Global Floating Rate Income fund may interest those looking for income who prefer not to have exposure to equities, says Hambidge.

This London-listed fund, which invests in a diversified portfolio of US loans, provides a regular floating rate income stream (it does not have a fixed rate of interest) and should benefit from any future US interest rate rise. The current yield is just over 4 per cent. Dividends are paid quarterly.


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