ChallengeWhile emerging markets have become increasingly more accessible over the past couple of decades, they continue to be risky and pretty unpredictable. For example, at the end of 2015 Brazil had an impending presidential impeachment, low-to-negative growth, runaway inflation, a downgrade to junk by S&P and Fitch, the Petrobras scandals, and currency falling to twenty-year lows versus the U.S. dollar. Yet in 2016, MSCI Brazil was up 66.2%.
Mexico, on the other hand, made significant structural reforms and benefited from close trade relationships with the U.S., but dropped precipitously over the time period. At the end of the day, emerging markets remain almost random in their country-level returns.
SolutionWe believe in a simple approach to recognizing this unpredictable nature of emerging market returns is to tap the power of true diversification at the country, sector and stock level. Many popular indexes are market-cap weighted, therefore a few large countries can have an outsized impact on the overall index performance. This exacerbates their unpredictable nature and also leads to a reliance on these few large countries for absolute returns – the emerging market exposure can only succeed if these large countries succeed. By holding a more diversified exposure, one can increase the likelihood of a positive outcome.
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At Parametric, we focus on portfolio construction without needing forward-looking views (impossible to consistently get right). We end up with a lower-volatility portfolio, which naturally increases compound returns and helps reduce downside risk. With almost $15B in our emerging markets strategies, as of June 30, 2017, we continue to help clients systematically access alpha.
Tim Atwill, Ph.D., CFA - Head of Investment Strategy
Mr. Atwill leads the Investment Strategy team at Parametric, which is responsible for all aspects of Parametric’s investment strategies. In addition, he holds investment responsibilities for Parametric’s emerging market and international equity strategies, as well as shared responsibility for the firm’s commodity strategy.