Everything you need to know about investing in emerging markets
Updated
August 28, 2024
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And how you can invest in emerging market trusts, stocks and ETFs.
‘Emerging markets’ is one of those phrases that gets thrown around a lot in financial circles and in the press.
It’s a bit of a catch-all term and it applies to so many countries that it’s not always a great word to use when looking for a specific investment.
But emerging economies contain 70% of the world’s population and contribute 40% of economic output. So investing in emerging markets is something lots of people feel inclined to do.
To understand what emerging economies are, you need to know what they’re not.
Investors like to break up countries into different categories and emerging markets are just one of them.
The other big ones to consider are developed markets and frontier markets.
Developed markets tend to be wealthier countries with more stability.
They’re usually politically stable, have low levels of corruption, trusted legal systems and good infrastructure.
We tend to think of the US and Western Europe as being the main developed markets. But Japan, Israel and Australia would all be considered developed markets too.
Others straddle the borderline.
Poland and South Korea, for example, are considered by some to be developed markets but by others to be emerging markets.
From an investment point of view, a developed market will have lower risk but lower rewards.
The reason for the uncertainty about what is and is not an emerging market, is there is no fixed definition for the term.
It really just refers to any country that is on the path to becoming a developed economy but which hasn’t got there yet.
That can obviously include lots of places. Russia, Uruguay and South Africa are all considered emerging markets.
And the other thing is there’s no way to say when a country has transitioned from ‘emerging’ to ‘developed’.
Take China.
It has good infrastructure, an advanced tech sector and is stable. Does that make it a developed market?
Probably not. The country is heavily reliant on manufacturing, as opposed to providing services, and has a weak independent legal system.
But the point here is that these things are open to debate. Some people could make a good argument that China is actually a developed nation.
So if you are looking to invest in emerging market equities then use it as a starting point, rather than an end one, for your decision making process.
And from the investment point of view, emerging markets may offer more room for growth than developed markets.
The reason for that is they still have growing industries and economic progress to make.
The downside is they tend to be riskier.
There is no guarantee that an emerging market will actually develop. Brazil has been an emerging market for decades now, to take one example.
And because institutions, such as legal systems, tend to be weaker in them, investing in emerging market equities or even the best emerging market trusts may mean your money is subject to more risk.
Another sub-category that has gained traction over the past couple of years are frontier markets.
The difference between them and emerging markets lies less in socio-economic conditions and more in their capital markets.
Frontier markets generally have far smaller stock markets, often with low liquidity levels and rules that often make it harder for foreign owners to invest.
As an example, Vietnam is an emerging market with more 1,500 stocks listed on its exchanges. Benin is a frontier market and has...one.
As we’ve seen, there’s no hard and fast rule for what makes an emerging market an emerging market.
By one metric, there are 90 emerging market countries in the world, which is almost half of the total number.
So any of the following ten countries could be considered an emerging economy:
There’s no clear picture as to what our post-COVID world is going to look like, which makes picking winners and losers for after lockdown hard for investors.
What many people have been doing is allocating more funds to companies based in countries that have handled the crisis well.
One way of doing this is to buy emerging market equities. Another is to hunt for the best emerging market trusts.
Many East Asian countries did a good job at containing the virus. So it’s not too surprising to have seen the Templeton Emerging Markets Investment Trust, which focuses heavily on Taiwanese, South Korean and Chinese companies, perform well in 2020 and into 2021.
Similarly, lots of Chinese stocks, whether it be Nio or Bilibili, have achieved strong returns over the past year. Part of that is investor enthusiasm for the sectors those firms operate in but it’s also an expression of confidence in China as an emerging market.
In contrast, countries that have not done a good job at handling the virus have seen poor returns during the same period.
For example, the iShares EM Latin America ETF, which is heavily exposed to Brazilian firms, has not performed well and is trading far below its pre-March 2020 levels.
One of the old groupings made in emerging markets are the so-called ‘BRIC’ countries.
The acronym is a reference to four major emerging markets — Brazil, Russia, India and China. Sometimes South Africa is included to make it BRICS.
At this point the BRIC(S) concept does feel a little outdated.
It was originally coined in the early 2000s by economists at Goldman Sachs. But all four countries, though they meet once a year, have taken fairly divergent paths since then.
With a world-class tech sector and highly developed infrastructure, China is also really the only one of the four that looks likely to move into the developed market sector any time soon.
By contrast, the Russian economy has been shrinking over the past five years and Brazil is still riddled with many of the problems it was back in the early noughties.
From the investment point of view, that doesn’t mean these aren’t still interesting places to look at. There are even emerging market ETFs, like the iShares BRIC 50, which track companies in the BRIC countries.
Would you rather have bought Amazon shares back in 1997 for a couple of dollars or today for $3,100?
I’m gonna take a guess and say the former.
Amazon today is like a developed market. It’s a stable company and is probably going to make lots of money for a long time to come.
But everyone already knows that so the odds are you aren’t going to see any large-scale returns from buying its stock now.
By contrast, if you had bought it back in 1997, you’d have done very well for yourself.
That’s kind of what emerging market advocates believe about what they’re doing.
They see emerging economies like early-stage Amazons, so buying into them now offers better opportunities for growth. But the risk at the outset of Jeff Bezos’s empire was high too.
The big advantage of investing in emerging markets is this opportunity for growth.
China has obviously been the big success story here, with massive economic development in the country over the past 30 years making some people very wealthy along the way.
But another opportunity investors have is to find diamonds in the rough.
A lot of emerging market companies won’t be well researched or widely known.
This can make identifying undervalued firms much easier than it is for US or UK stocks, where most companies will get at least some attention from the press and big players in the market.
One extreme example of this came in 2017 when a Polish financial analyst called Maciej Wojtal set up a fund, called Amtelon Capital, to invest in Iranian stocks.
The next year Iran’s stock market was the best performing in the world, rising in value by 170% in dollar terms. One of Amtelon’s holdings, a company selling chocolate biscuits, rose five-fold in value.
Part of Amtelon’s success was due to fear. US sanctions mean investors are very cautious about dealing with any Iranian company.
But the bigger factor was a knowledge gap. Wojtal figured out that lots of Iranian stocks were massively undervalued long before anyone else had, which enabled him to make a lot of money.
The odds are you aren’t going to replicate his success but the point remains that emerging markets can provide you with a big opportunity to find diamonds in the rough.
Investing in any company carries risk and there’s no magical force which is going to change that in emerging markets.
In fact, you are likely to face more risks in emerging markets than you do in developed ones.
There are a few different factors to consider here, including:
Investing in an emerging market directly can be tricky to do — local exchanges aren’t always easy to access.
That doesn’t mean you can’t do it though. Emerging market Stocks, ETFs and trusts are all easily accessible in the US and UK.
Investors usually buy emerging market equities in a couple of ways.
The first is to simply buy shares in companies, listed on an exchange in a developed market, that are either based in emerging markets or which are headquartered in a developed country but still do most of their business in emerging markets.
UK listed firms Hikma Pharmaceuticals and Antofagasta are both examples of this.
Hikma has historically done most of its business in emerging economies in the Middle East and Antofagasta is heavily focused on Chile. But both firms are big London-listed companies and have their head offices in the UK’s capital.
Another option is to buy a depository receipt in foreign shares. Depository receipts are generally issued by banks and they trade on stock exchanges in exactly the same way that shares do.
Each receipt will represent a set number of shares in a business. So a bank will hold a certain number of shares in a company and issue an equivalent number of depository receipts.
The reason they do this is generally to give investors in developed markets access to emerging market companies.
For example, when you buy ‘shares’ in the Chinese tech giant Alibaba or Petrobras on the New York Stock Exchange, you are actually buying depository receipts.
Another option is to go direct to an emerging market exchange. The problem is this is often hard to do.
For example, less than 0.5% of trading on Jordan’s biggest stock exchange took place online in 2020 and it’s only really local brokers that can give you access to the market.
Another way of getting exposure to emerging economies is to invest in emerging market ETFs.
ETFs, or exchange-traded funds, are baskets of stocks or other asset classes that you can invest in — have a read of our ‘What is an ETF’ guide if you want to learn more.
There are a lot of emerging market ETFs and they target lots of different countries, sectors and asset classes.
Some examples include;
Like any other investment that gives you broad exposure to a range of assets, emerging market ETFs can give some diversity to your portfolio.
The danger here is the lack of clarity on what you’re investing in. You know exactly what you’re getting when you invest in a UK stock market ETF or an S&P 500 ETF.
Contrast this with an ETF tracking an index of emerging market tech firms. It could include a Brazilian ecommerce site, Russian search operator and Chinese ride hailing app.
That’s not a bad thing but the point is simply that it’s less obvious what your money is going into and so you need to make sure you’re okay with the risks involved in having exposure to those companies.
Investment trusts are similar to ETFs in the sense they usually give you exposure to a wide range of companies.
The difference is ETFs generally track some sort of index, whereas trusts are actively managed funds which look to pick winning stocks. If you want to learn more about them then look at our guide where you’ll find all things investment trusts explained.
Finding the best emerging market trusts does require a bit of research. It will also depend on what you are interested in.
Different trusts will target very different companies and geographies, so it’s worth having some idea as to what you’re looking for before buying.
To give you an idea of what’s available you can look at the below. This is by no means a list of the best investment trusts, so do your research before investing in anything.
If you know how to invest in stocks then you’ll know how to invest in emerging markets.
The principles are no different to buying into companies in developed economies.
You need to look at the risks involved, valuations and any important micro and macroeconomic factors.
As we’ve seen already though, ‘emerging markets’ is a really broad term, so it can be hard to know where to start.
One thing you can do that may help is to narrow down to specific countries and look at what your options are on that basis.
Brazil is a popular emerging market to invest in and lots of firms from the country will have depository receipts trading on the US markets.
It is also risky. Brazil has faced major corruption problems in the past, some of which have had a major impact on investments.
Money is still flowing into the country though, so here are some of the companies you can invest in.
China is probably the most successful emerging economy of the 21st Century. Its rapid rise has seen it grow into the world’s second-largest economy.
The country’s tech sector has attracted lots of attention in recent years but more traditional companies have also yielded big returns for investors too.
That’s not to say it’s all great there. Investors may have ethical concerns about dealing with some state-owned enterprises there. Firms are often less transparent than in the UK or US too.
But that hasn’t stopped investors from wanting to invest in Chinese stocks, trusts and ETFs.
Some big names to be aware of are:
Investors had big hopes for Russia in the decade following the collapse of the Soviet Union.
Many of those did not materialise and, like Brazil, Russia faces huge problems due to corruption.
But there are still lots of good companies there and, even though we tend to think of Russia as a giant petrol station, many are very innovative too.
India has not been the easiest country to invest in.
The country has generally had strict financial regulations, particularly around foreign investment and currency outflows.
That means your options are a bit more limited when it comes to investing, although things do seem to be changing, with more start-ups launching in India and more conglomerates opening offices there.
Some investment options available for anyone interested in India includes:
Like Russia, African countries have delivered a lot over the past couple of decades but also disappointed too.
Investors are often faced with high levels of risk when doing business there, particularly in politically sensitive sectors.
But others have flourished. And even though we tend to associate investing in Africa with investing in commodities, there are plenty of other ways that you can invest in the continent too.
Nearly all of the stocks, trusts and ETFs we’ve listed so far are available on Freetrade but it’s always nice to know what others are doing.
The following is a list of the most popular emerging market stocks and ETFs on Freetrade.
It’s noteworthy that the majority are China-focused, which reflects the appeal the country has for investors.
Just remember that everyone has their own risk tolerance level and reasons for investing in a given company, so don’t assume that because these assets are popular with Freetrade users they’ll be right for you.
Missing out on investing in emerging markets means missing out on the potential for strong returns.
The key thing to remember is your approach to emerging market equities, ETFs or trusts should be exactly the same as it would be if they were in developed markets.
Doing the basics, like making sure you know what you’re getting into, that the value is there and you aren’t taking on too much risk, are probably even more vital in emerging markets than they are in developed ones.
So be open to investing in them just don’t forget to do your homework before you do.
At Freetrade, we think investing should be open to everyone. It shouldn’t be complicated, and it shouldn’t cost the earth. Our investment app makes buying and selling shares simple for both beginners and experienced investors and keeps costs low. So download the app and start investing today. You can keep your investments as part of a general investment account, a tax-efficient stocks and shares ISA or SIPP pension.
