Study: Emerging markets hold their appeal

Institutional investors remain committed to emerging markets private equity and convinced it can offer higher returns than more developed markets. However, their perception of the risk involved has incresed since 2008.

The appeal of emerging markets to institutional investors has remained largely untouched by the ongoing economic crisis, despite an increase in the perception of risk involved.

According to the EMPEA/Coller Capital Emerging Markets Survey, undertaken in the first two months of 2009, 78 percent of current investors in emerging markets private equity plan to commit to additional managers and geographies over the next five years. Half of these investors plan to do so from 2009 to 2010.

Of those investors who currently have no allocation to emerging markets, 35 percent expect to commit in the next year or two. Those still without any plans to commit to emerging markets cited risk as the main barrier, followed by insufficient in-house expertise and concerns over the limited number of established GPs in emerging markets.

Overall perception of the risk involved seems to have increased, as the expectations of the risk premium required for emerging markets investments have risen from an average of 6.7 percent in 2008 to an average of 7.2 percent in 2009. Africa (excluding South Africa), Russia, Central and Eastern Europe experienced the highest increase in risk premium while Brazil was the only country with a lower risk premium at 6.4 percent in 2009, down from 6.9 percent in 2008.

In terms of commitment levels over the next 12 months, the majority of LPs – 62 percent – currently exposed to emerging markets anticipate the value of their new commitments in 2009 will remain the same as 2008. The remaining 38 percent anticipate a reduction.

Investors in emerging markets seem more commited to the asset class than investors in the market as whole. Some 53 percent of emerging markets investors plan to re-up with at least one of their GPs over the next 12 months. This compares to the 34 percent of LPs who plan to re-up with some of their GPs in the market as a whole. 

LPs also have more confidence in the performance of emerging market funds, with 57 percent of respondents saying they believe 2006 and 2007 vintage emerging market funds will be less affected than similar vintage funds in developed markets. Two factors given for this belief are the growth in underlying emerging market economies compared to the negative growth in developed markets and the lack of leverage used compared to developed markets.

Such confidence also brings with it higher expectation: over the next three to five years, 77 percent of LPs expect annual net returns of 16 percent from their emerging market commitments, compared to just 43 percent of LPs expecting the same returns from a global portfolio.

Overall, the survey found China remained the most attractive emerging market in 2009, as it was in 2008, followed by Brazil and then India. The least attractive emerging market to invest in was Russia, followed by the Middle East and then South Africa. 

This corroborates the results of EMPEA's February survey on emerging markets fundraising, which found Asia dominated emerging markets fundraising in 2008. Within Asia, China accounted for the bulk of capital commited, with India following in second place.