Why to Buy Emerging Markets Now

Thank goodness for emerging nations such as China, India and Brazil. By continuing to grow briskly, they kept the recession of 2007–09 and its immediate aftermath from turning into a global calamity. Now, however, emerging economies are slipping. In India, for example, inflation is higher than in any other large country, yields on ten-year government bonds have jumped to nearly 10%, the rupee has lost two-fifths of its value, and growth in gross domestic product has dropped from about 9% to half that. China’s growth rate is down by one-fourth, and Brazilian economists estimate that their nation’s GDP will increase by a puny 2.9% in 2013.

*Total returns through September 6; three-, five- and ten-year returns are annualized. Returns for ETFs are based on share prices. Source: Morningstar.

Among mutual funds, I like Vanguard Emerging Markets Stock Index (VEIEX), which tracks the FTSE Emerging index, and Harding Loevner Emerging Markets (HLEMX), an actively managed fund that has done a bit better over the long run. (The Harding Loevner fund is a member of the Kiplinger 25.) I slightly prefer the Vanguard fund because its annual expense ratio of 0.33% is less than one-fourth that of the Harding offering. The broad exposure to the global economy of the large-company stocks in such funds tends to dampen volatility, and they do own loads of stocks in real emerging markets, such as China, India and Brazil.

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If you can absorb more risk, focus, in these dark days, on India. One of my favorite ETFs is EGShares India Consumer (INCO), linked to the Indxx India Consumer index. It holds firms that sell to the huge domestic market, including Zee Entertainment, a film- and TV-production firm; and United Breweries, India’s largest beer purveyor.

Another way to get the most out of emerging markets is to invest in the stocks of small companies, which tend to have more of a local focus. Consider SPDR S&P Emerging Markets Small Cap (EWX), an ETF with an expense ratio of 0.65% and holdings such as China Everbright International, a developer of environmental projects, and Kroton Educacional, the third-largest for-profit education firm in Brazil.

Market Vectors Brazil Small-Cap (BRF) is an ETF whose top holding is another chain of post-secondary private schools, Brazil’s Anhanguera Educacional Participacoes. It also owns Qualicorp, which offers insurance to unions and trade associations, and Marfrig Alimentos, a meat processor that is expanding to China.

I would stay away from individual stocks of small companies and emerging-markets bonds. Bonds, too, have been clobbered in 2013, but although risks are lower than for stocks, they are still too high for the potential rewards.

You can’t time emerging markets any better than you can time domestic ones, but there’s no doubt that it’s better to buy when investors are heading for the exits. And that’s just what they’re doing.