Investing in emerging markets

Most financial best practices originated in developed economies. And while best practices and ethical principles endure regardless of locality, they can be challenging to implement in underdeveloped markets where the operational framework may be quite different. For example, in the UAE, the vast majority of city residents are investing in emerging markets-Emirati: Only about 10 per cent to 20 per cent are UAE citizens.

For many UAE residents, the concept of investing and wealth management means buying gold or real estate, gambling in the local stock market, or starting a small business. Along with this somewhat limited view of wealth management, they often hold unrealistic risk-reward expectations: A 25 per cent annual return with very little downside potential does not strike them as unreasonable. These factors combine to create a challenging environment for any investment adviser. Developing equity markets have experienced a much different risk-reward journey over the past few decades than their developed counterparts, with much greater volatility in both risk and investment returns. Russian equities, for example, at their nadir, underwent a 91.

Note: These are price return indices and do not include dividends. In my career, I have found investors’ expectations are set by and reflect their home country experience. This explains why home country bias is so universal. How would an investor raised in China, who had returns of 151 per cent in their best year and a 79 per cent drawdown in their worst, perceive equity investing?

We have to educate clients to move them from a localised, extreme volatility-return paradigm to a broader, globally diversified understanding. Read more on Enterprising Investor, a CFA Institute blog. Regulatory frameworks Credentialing is another factor that distinguishes developed and emerging markets. In the United States, investment managers must meet licensing requirements to advise clients and invest on their behalf. Depending on the emerging market, there may be little if any licensing requirement. This means many untrained or unscrupulous advisers enter the market, and through their excesses and shortcomings, paint the whole industry with an unfavourable brush.