Emerging market mutuals good choice if you diversify

Though volatile, they have been among leading funds this year

Your Money


Mutual fund investors: Emerging stock markets have been red hot in 2005.

But what to do about it?

If you don't have emerging market holdings, you may want to invest if you're ready, willing and able to fasten your seat belt for a wild ride. And, experts say, be sure to be diversified if you decide to dive in.

It makes sense to dedicate a portion of your mutual fund holdings to growth investments in Latin America, Eastern Europe and Asia based on potential rewards, if it is money that you promise never to cry about.

The reality is that less mature markets are volatile because of political, economic and foreign exchange risk.

Emerging market mutual funds have been among the leaders this year, gaining 18 percent in the third quarter and 24 percent for the year to easily outdo U.S. benchmark indexes. But their 10-year annualized return is a more down-to-earth 7 percent, according to Lipper Analytical Services.

"If you're not a gambler and are truly risk-averse, the speculative portion of your personal investments should not be more than 10 percent," said Andrew Clark, a Lipper senior research analyst in Denver.

Boost that percentage based upon your age and aggressiveness. Younger people generally can have higher-risk portfolios because they have plenty of time to recoup losses. But you don't want junior's college tuition or your retirement dependent on next year's Brazilian elections.

A reminder about risk: Many older investors who went tech-heavy in the 1990s were badly burned when the bubble burst.

Portfolio managers of emerging-market funds cope daily with uncertainties.

"It's important for us not to have a disaster, and we didn't," said Stefan Bottcher, lead manager for U.S. Global Investors Eastern Europe Fund, in explaining the fund's 33 percent third-quarter and 37 percent year-to-date returns. "Betting on oil stocks in Russia and bank stocks in Turkey that were helped by lower interest rates is the right way to play long-term structural, political and economic change."

Turkish industrial materials firm Hac Omer Sabanc Holding and Russian telecom Vimpel-Communications are Bottcher's largest holdings.

"I'm a cautious optimist but can't imagine any asset class gaining 50 percent every year," said Vladimir Milev, investment analyst with the Metzler/Payden European Emerging Markets Fund, up 29 percent in the quarter and 39 percent for the year. "There will be hiccups, but the long-term story involves Eastern European countries converging toward Western Europe."

Milev unloaded his Turkish stocks after their dramatic run-up in valuations. His top holdings are now Russia's Lukoil and Hungary's OTP Bank.

Latin American funds, driven by higher oil prices and Chinese demand for a variety of the region's commodities, gained 29 percent in the third quarter to lead all mutual fund categories. These funds are up 45 percent for the year and have a solid 10-year annualized return of 13 percent, according to Lipper.

"We keep a close eye on the political situation in Latin America, especially with very big elections coming up in Mexico and Brazil next year," said Todd Henry, portfolio specialist with T. Rowe Price International Latin America, up 31 percent in the quarter and 52 percent this year. "If we see candidates gaining popularity we're concerned about, we may put some of our money from those markets into a defensive market like Chile."

His largest portfolio holdings are Mexican mobile phone firm America Movil SA and Brazilian oil company Petroleo Brasileiro.

What makes these markets impossible to overlook is that foreign mutual funds more than doubled the performance of U.S. funds in the third quarter. The average world stock fund rose 11.48 percent, compared with a 4.65 percent rise for the average diversified U.S. stock fund.

Top-performing stock funds open to new investors in the third quarter, according to Lipper, were strictly foreign:

ProFunds UltraJapan (UJPIX), no load (no sales charge), uses futures to produce results that have been superior to the Nikkei 225 Stock Average; $5,000 minimum initial investment; up 41 percent.

ING Russia "A" (LETRX), 5.75 percent load; $1,000 minimum; up 38 percent.

iShares Brazil Index (EWZ), an exchange-traded index fund sold as a share on the American Stock Exchange; up 35 percent.

Third Millennium Russia "A" (TMRFX), 5.75 percent load; $1,000 minimum; up 34 percent.

U.S. Global Investors Eastern Europe (EUROX), no load; $5,000 minimum; up 33 percent.

Look beyond one quarter's performance with any fund, since today's hot ticket may have a cold long-term record.

Japan isn't an emerging market but lately has performed like one. Growing optimism about its long-dormant economy led to a robust 18 percent gain for Japanese stock funds in the third quarter. But their 10-year annualized return is a meager 1.24 percent.

Lipper's Clark remains wary of unpredictable politics in such countries as Russia and Brazil.

"I'd instead put that investment money into an Asian fund, since economics continue to be a lot better in emerging Asian markets than anywhere else," he said.

Considering all the world's variables, spreading your bets may make the most sense because choosing individual countries or regions is always a gamble.

"We're certainly big proponents of emerging markets but would encourage investors with no exposure to them at all to make their first step into a global portfolio instead of a regional one," said T. Rowe Price's Henry.

Andrew Leckey writes for Tribune Media Services.

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