Why a bad investment sounds like a good idea

China versus India

The two biggest emerging economies are China and India, which together account for 51.8 per cent of the FTSE Emerging index. That’s where the similarities end. Over the past three years, FTSE India is up 72.5 per cent, while FTSE China is down 42 per cent.

The Indian economy (now larger than the UK’s) is the world’s fastest growing, and is expected to grow about 6.5 per cent a year to be the third largest by 2030.

China, meanwhile, has been weighed down by its mammoth property sector, where many heavily indebted companies are at risk of defaulting. Its communist ruling party has spooked investors by cracking down on other sectors including private education and video gaming.

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India is benefiting from the “democratic premium”: a theory that the price-to-earnings ratio (a popular valuation metric that divides the company’s share price by its earnings) of the average company in the most democratic emerging nations is generally higher than the average company in the least democratic emerging nations, according to the fund house WhiteOak Capital Management.

“In a turbulent world, India’s political stability, the robustness of its democratic institutions, and higher growth prospects only add to its attractiveness,” Ayush Abhijeet from the Ashoka India Equity investment trust said.

The question for India is whether its share prices are now too expensive. For China, we must ask if this is a once-in-a-generation buying opportunity, or if the country is simply isn’t a good investment option.

Retail investors certainly seem to think that this is India’s time to shine. The Jupiter India fund and India Capital Growth investment trust were both popular on the investment platform Interactive Investor in September. Still, people piling into a specific investment story because of strong recent performance makes me wary.

The consensus on China seems to be that there are opportunities to be had. Carly Moorhouse from the wealth manager Quilter Cheviot said that only brave investors would write off the country completely. “There are undoubtedly challenges to investing in China, but the breadth and depth of the market is huge and pessimism towards the country means these companies are trading at very attractive prices,” she said.

Where else could I invest?

Asia isn’t only about China and India, though. Moorhouse highlighted Indonesia as another up-and-coming economy with a large, young population. “As a commodity exporter, its economy has benefited since the beginning of last year. The consumer-led recovery post-Covid has been strong, yet valuations still look attractive,” she said.

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Vietnam and Thailand should also benefit from the West’s unease towards China, particularly as companies look to move their manufacturing factories into neighbouring nations with cheap labour.

Two decades ago, a large programme of infrastructure spending and increasing urbanisation was powering China’s equity market returns. Today, the same dynamics could help Vietnam, Ngo Thanh Thao from the fund group Dragon Capital said.

Mexico is another potential beneficiary of tensions between the US and China. As well as looking for cheap labour in Asia, American companies are increasingly looking to near-shore their supply chain – that is, bring some of their manufacturing base closer to home. Mexico is the perfect place to do that.

Still, Christoph Brinkmann from the BlackRock Latin American investment trust has been taking profits from Mexico after a rise in share prices. He thinks the economy could be worse hit than neighbours from a slowing US economy.

Instead he is looking to Brazil. Local investors have taken money out of the stock market because they can earn 12 per cent from Brazilian government bonds, and that makes valuations more appealing for international investors.

Brinkmann said that international investors have poured cash into Brazilian equities and local investors should be tempted back in as government bond yields continue to fall from the near-14 per cent that they hit 11 months ago.

The funds I’m looking at

Those looking specifically to China could consider the Matthews China Small Companies fund, said Ben Yearsley from Shore Financial Planning, but should only allocate a very small portion of their portfolio to this risky bet.

For most investors, broader funds such as FSSA Asia Focus or Fidelity Emerging Markets will be more suitable, he said.

Tom Becket from Canaccord Genuity Wealth Management is still a fan of Asia, which he said could be described as “a classic contrarian investment opportunity”. His top pick is the Stewart Investors Asia Pacific Leaders fund.

Dzmitry Lipski from Interactive Investor said that valuations in emerging markets were “very attractive”, making now “a great time to be building for the long-term”. Adventurous investors could allocate as much as 10 to 15 per cent of their portfolio to the region, he said. He likes the Stewart Investors Global Emerging Markets Sustainability fund and Utilico Emerging Markets investment trust.

I’m considering all of these. However, keeping costs down is a priority so I also have the Dimensional Emerging Markets Core Equity fund high on my shortlist (it charges only 0.45 per cent).

Emerging markets can be volatile and their fortunes can be influenced by external factors, so I need to do my homework. But after a strong decade or so for US stocks, now is the time to spread my bets on other regions — and emerging markets are at the heart of my plan.