Emerging markets are ideal for long-term investors willing to accept high risks in pursuit of high rewards, right?
Well, no, wrong, actually, according to 25-year statistics from Morningstar. Yes, I know that a quarter of a century is a very long time indeed, so much so it invokes the economist John Maynard Keynes’ observation that in the long run we are all dead. But it also happens to more or less match the investing lifetime of this particular individual investor who has, funnily enough, been a long term bull of emerging markets.
This makes it all the more difficult to accept that the facts contradict the assertion I have always held to be true and with which I began this piece. According to Morningstar, £100 invested in the average investment trust in 1992 would be worth about £1,295 today - an even more impressive result when you consider that the Bank of England calculates only £197 of that was needed to keep pace with inflation over the same period.
However, Morningstar also states that the same sum invested in the average global emerging markets sector would have grown to £1,191. That’s £104 or 8% less than the average for all closed-end funds during this 25-year period.
Why? It’s almost as worrying a question or conflict between theory and fact for this bull of emerging markets as the collapse of the Berlin Wall must have been for a lifelong communist.
Worse still for self-styled adventurous types who, like me, have long mocked the ‘Little Englander’ tendency of many investors to keep their money close to home, Morningstar reckons the UK All Companies sector delivered total returns of £1,839 on the same basis. That phrase ‘total returns’ may contain a clue.
Dividends delivered nine-tenths of the total returns from equities during the last century or more, according to the most comprehensive and long term analysis of asset class returns, updated annually in the Barclays Equity Gilt Study.
If you don’t believe me, here’s what Barclays analyst Sreekala Kochugovindan said: “Our data shows that £100 invested in UK equities in 1899 would be worth about £28,230 with dividends reinvested but only £177 without dividends - both figures are adjusted for inflation. So, over the long run, real annualised average total returns with dividends reinvested were 5% but just 0.5% of this came from real capital returns. The rest is really driven by reinvesting dividends.”
This remarkable analysis shows how dangerously misleading most financial journalists’ focus on short-term fluctuations in capital values or share prices - while ignoring income flows or dividend yields - can be for investors aiming for total returns.
Returning to sector variations, until recently, most emerging markets paid little or no income to investors. By contrast, UK All Companies always delivered healthy dividends to pay shareholders for their patience.
That’s why the tortoise beat the hare in this financial parable. But I don’t intend to dump my long-standing holdings in emerging markets.
One reason is that many do now pay dividends - for example, my two biggest holdings in this sector, BlackRock Latin American (BRLA) and JPMorgan Global Emerging Markets Income (JEMI), yield 2.5% and 3.7% respectively. If sustained, the compounding effect of the latter yield would double capital in 20 years - or about the term of a typical retirement.
These are important considerations for the new breed of income drawdown investor, aiming to fund old age with stock market assets. To make the most of them, we need to keep an eye on yields as well as gains.
Dividends may seem like dull details to teenage scribblers who fill the financial pages today, but income could prove most important to older investors aiming to retire in comfort tomorrow.
Full disclosure: here is a complete list of Ian Cowie’s stock market investments. It is not financial advice nor is any recommendation implied.