This week I am looking at Templeton Emerging Markets (TEM), which is an investment trust that aims for capital appreciation through investing in companies that either operate or are listed in emerging markets. The trust is coming up to its second year of new management after emerging markets pioneer Mark Mobius stepped down from his 26 year tenure as lead manager, to be replaced internally by Carlos Hardenberg.
Mr Hardenberg has enjoyed a good start to his tenure, having significantly outperformed the index since his appointment (96% vs 67%). In a recent presentation it was particularly interesting to read his thoughts on the rising influence of passive investment and the risks associated with this.
Passive investments replicate the index and provide investors with cheap access to markets. However, the large sums that have been flooding into the emerging markets have significantly changed the ownership of the underlying companies. Due to the nature of passive investors, TEM is unable to work with them when it comes to voting or improving corporate standards, a key aspect of investing in emerging markets. Furthermore, the large flow of money into investments that replicate the index also increases the dominance of certain countries and companies. Specifically, the top 5 countries in the Emerging Markets Index make up 71% of the index, and the top 10 companies account for 24% of the index.
The danger here is that passive investors are, perhaps unknowingly, being crowded into a fairly concentrated selection of countries/companies that are being inflated in value by the weight of money being invested in them. By using an actively managed fund such as TEM, investors can gain exposure to a more sensibly constructed portfolio of assets that takes into account diversification and value.