Emerging market funds invest in developing countries with high growth potential, but are considered high-risk due to economic and political uncertainty. Investment can be made through mutual funds, ETFs, or US Depository Receipts.
An emerging market fund refers to an investment or investment fund that places the majority of its investments in the financial markets of developing countries. The term “emerging market” was coined by the investment community to refer to developing countries that showed promising growth prospects. Emerging market funds have the potential for very high returns, but are considered a high-risk investment due to the uncertainty of the economies in these countries.
Investment in emerging markets is focused on countries with rapidly developing economies. Between 1980 and 2006, most emerging market funds invested assets in countries located in areas such as Africa, Latin America, Asia, and Eastern Europe. To invest in emerging economies, the investor can place assets in a single country or spread assets across several countries with growing economies. As more developing countries are eager to join the global economy, more opportunities will become available for investment in emerging markets.
Investing in emerging market funds may present a substantial risk of loss. Developing countries tend to be more susceptible to political or economic turmoil. These countries tend to have low per capita income and are in the early stages of building an industrial and commercial base. Financial markets in these countries are generally still fragile and have not yet developed a level or steady rate of growth, leaving plenty of room for error as well as sudden market crashes. Obtaining information about trading securities in emerging markets can be challenging, and it is generally advisable to obtain such information from some type of professional investment manager.
There are several alternatives for investing in emerging market funds. A mutual fund investor will typically begin investing in a fund by placing a simple addition to an existing portfolio. Typically, exposure to emerging markets is limited to 5% or 10% of a portfolio’s risk-based assets.
Exchange-traded funds (ETFs) are another popular method of investing in emerging markets. ETFs are securities that track assets like an index fund, but trade like a stock on an exchange. Often these funds offer passive exposure to a higher percentage of the total domestic market capitalization for a particular country.
Investors may also consider investing in emerging market funds by using US Depository Receipts to trade publicly on US stock exchanges. This method allows more freedom to develop unique investments and control exposure to foreign companies. However, it can require a significant amount of time and effort to perform a proper fundamental analysis from the bottom up.
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