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 A top holding in the $710 million Ivy Emerging Markets Equity Fund,
the best performing diversified emerging market fund over the last
five years, is Las Vegas Sands Corp, the U.S.-based casino operator
that generates most of its revenue in Macao.
The No. 2 holding in the $2.8 billion GMO Emerging Domestic
Opportunities Fund is Colgate-Palmolive Co, based in New York but
the maker of the best-selling toothpaste in India. And the $25
billion American Funds New World Fund is betting on a U.S. housing
recovery by investing in Hong Kong-based Techtronic Industries Co
Ltd, which sells power tools through Home Depot Inc, its largest
customer.
"It's a new geography," said Rob Lovelace, a portfolio manager for
the American Funds New World Fund, part of the No. 3 U.S. mutual
fund family with $1.15 trillion in assets. "Investing based on where
a company is domiciled doesn't really work. We have a better proxy
because companies are disclosing more in their revenue breakdowns."
Betting on multinational companies that generate a meaningful amount
of revenue from emerging markets allows fund managers to sidestep
the political and currency risk that comes with investing directly
in an emerging market, while also expanding their universe of
potential investments.
A revenue-focused strategy allows portfolio managers to take
advantage of an emerging market's strengths, such as cheaper labor
costs, lower taxes and rising standards of living. Emerging market
operations at multinational companies have delivered almost double
the revenue and more than twice the profit growth of their parent
companies, according to a Bain & Co analysis of results between 2005
and 2010.
To underscore the importance of this developing investment strategy,
American Funds will provide investors with regional revenue
breakdowns later this year at four funds.
Some portfolio managers using this approach are trouncing their
peers, according to Morningstar Inc.
The New World Fund's three-year annual total return of 5.10 percent
is beating 94 percent of rival diversified emerging market funds,
according to Morningstar.
Ivy Emerging Markets Equity Fund has posted a 5-year annualized
total return of 5.83 percent, the best performance among diversified
emerging market funds with at least $200 million in assets during
that period, according to Lipper Inc, a unit of Thomson Reuters.
The GMO Emerging Domestic Opportunities Fund's 1-year total return
is 8.20 percent, beating 99 percent of peer funds, according to
Morningstar.
HARD TO FIND
But the strategy has limitations, according to executives at New
York-based Emerging Global Advisors LLC. Multinational companies
that have measurable revenue exposure in emerging markets are hard
to find.
Only 24 percent of companies disclose a specific percentage of
emerging market or frontier market revenue exposure, according to an
analysis of 2,025 large-cap and mid-cap companies by Emerging Global
Advisors. While disclosures may be sparse for competitive reasons,
fund managers say they constantly push for more specific breakdowns
from company executives.
More databases and indices also are being developed to help
portfolio managers identify the geographic revenue trends of
publicly-traded companies. FactSet Research Systems Inc, for
example, has a database that monitors more than 8,000 companies.
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David Herro, who runs the $33 billion Oakmark International Fund,
said if he can access a fast-growing emerging market via an indirect
route, he's happy to make a big bet.
At Morningstar's annual investment conference last month, Herro
pointed to German automaker BMW AG's surging revenue in China and
how Milan, Italy-based Prada SpA, which is listed on the Hong Kong
stock exchange, is reaping profits in China from sales of luxury
handbags.
Prada generated 29 percent of net sales from China in the first
quarter, while BMW sold 33 percent more BMW, Mini and Rolls-Royce
cars in China (108,143) than in the U.S., according to first-quarter
results. Year-over-year sales in China were up 25 percent, compared
with a 3-percent rise in the United States, according to BMW.
BMW accounts for about 3 percent of the Oakmark fund's holdings,
according to Thomson Reuters data. The fund's 3-year annualized
return of 11.92 percent is better than 98 percent of foreign
large-cap blend fund peers, according to Morningstar.
Sometimes, the best bets are in traditional emerging markets, but
with a twist.
Hikma Pharmaceuticals plc, listed in London, based in Jordan and a
top maker of generic drugs for markets in the Middle East and North
Africa, is a darling among emerging market portfolio managers even
as it says it's pursuing new markets in war-torn Iraq. Hikma is the
No. 2 holding at American's New World Fund.
Hikma discloses diverse sources of geographic-based revenue, which
appeals to fund managers like Lovelace. In 2013, Hikma generated 46
percent of its revenue in the U.S., according to its financial
statements.
"Low labor costs and a low tax base enable Hikma to competitively
price its products and gain market share,” according to stock
analysts at Morningstar.
Hikma shares are up 64 percent over the past year and 125 percent
over the past three years, beating the FTSE 100's advance of 3
percent and 13 percent, respectively, during those two periods.
Justin Leverenz, who runs the $43 billion Oppenheimer Developing
Markets Fund, dismissed national borders altogether last month
during a discussion at Morningstar’s investment conference in
Chicago.
"Countries come and go," Leverenz said during a discussion about
crisis-torn Ukraine.
(Reporting by Tim McLaughlin, editing by John Pickering)
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