Emerging markets loom large on the radar of pension funds

By Jason Corcoran in Moscow

From the largest sovereign wealth fund in the world to the most modest local authority pension scheme, investors are hiking their risk appetite by shifting assets into unchartered waters around the globe.

While developing world equities have advanced by almost 50% this year, markets in China, Russia and India have so far clocked 84%, 80% and 64% respectively.  As western markets seem to acquire the dysfunctional characteristics of developing countries, investors are responding to a global economic realignment by putting more money to work in emerging markets.

Figures from global fund tracker EPFR show dedicated emerging-market equity funds took in $1.6bn in the first week of August, bringing total year-to-date inflows to $36.1bn.  These inflows, which have been checked by scepticism in recent weeks over China’s liquidity, outpace those to developing markets.

The Japanese Government Pension Investment Fund, the largest in the world, is mulling investing in emerging market equities, according to a report in the Nikkei newspaper earlier this month.

The fund, which managed about 117.6 trillion yen ($1.2 trillion) in assets as of the end of March, may target higher returns by investing in stocks in countries such as China and India from the financial year starting next April.

The $230bn Norwegian Oil fund, which invests the money earned from the country’s oil reserve, is pioneering a move by sovereign funds to diversify their equity exposure.

The fund, which is expanding to roster of specialist emerging markets managers, is currently looking for managers to run $50m- $250m equity mandates focused on Thailand, China, South-Korea and India. It has already appointed specialist segregated managers for many of the mainstream emerging economies like Prosperity Capital in Russia.

In the UK, local authority pension funds are increasingly tendering for emerging market specialist mandates, according to consultants and fund managers. Devon County Council recently awarded a £100m emerging markets equity mandate while Cardiff County Council has tendered for a specialist emerging manager.

The Gwynedd Council scheme named Fidelity International to manage an active global equity mandate earlier this year, but held back some of the investment until the firm established an emerging market select fund.

The £120m mandate was to invest in Fidelity’s global select strategy, of which 9.5% of its assets are meant to be in emerging markets. A portion of the investment was withheld when it was discovered the Fidelity global select fund did not have any investment in emerging markets.

Fidelity said the full mandate has arrived after the firm launched its select emerging market equity fund on July 29, as previously reported by EmergingMarkets.me

Fidelity said the firm had this year won several mandates from the local authority sector for global equities with specific focus on the emerging markets.

Mark Miller, executive director for UK institutional business at Fidelity, told EmergingMarkets.me: “Pension funds are now thinking about a long-term strategic allocation to emerging markets as the correlation has gotten closer to developed markets.”
However, many UK funds remain massively underweight compared to pension funds in Holland and Scandinavia where allocations of 20-30% by large schemes is not unusual.

Julian Mayo, investment director at emerging markets boutique Charlemagne Capital, said: “Consultants and their clients are strategically bullish about emerging markets and there will be a wall of cash coming through. Scandinavia and Holland have traditionally had a good appetite for emerging markets but others are catching up.”

The Pensions Corporation has overhauled its £2.2bn portfolio since markets rallied earlier this year but only has “a negligible” amount invested in emerging markets.

The UK insurer, which abides by a conservative investment strategy, had 70% of its portfolio held in cash and gilts by the end of last year after equity markets had collapsed in the autumn.
Since then, the scheme has put risk back on the table by trimming its cash and gilts holding to 25% and by investing in corporate bonds and asset back securities.

However, the scheme’s investment in equities remains negligible, according to director Bob Swarup. He said: “Investing in emerging markets has always made sense from a macro viewpoint, but it doesn’t automatically mean it’s a good investment at every point in the cycle.

“Emerging markets are very affected by global investment flows and investors can get burnt badly when there is a sudden rush for an often narrow exit. There are also many unique risks that need to be understood such as the lack of transparency and liquidity, the diversity of regulatory and business regimes, and political risk.”