Since the markets turned up in March, investors' appetite for risk has returned -- and in the case of emerging markets, it is voracious. So far this year, investors have poured nearly $30 billion into emerging-markets stock funds, reports EPFR Global, which tracks asset flows. Last year, investors pulled nearly $50 billion out of those markets. China claims the lion's share of inflows, with Brazil a close second. For those prescient enough to have bet on emerging markets already, the payoff has been huge: The iShares MSCI Emerging Markets index, reflecting 22 developing markets, is up 27% so far this year through July 10, after sinking 50% last year. Many individual markets are up more: China, up 31%; Brazil, 44%; and India, 43%.
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Can those gains continue? Clearly, emerging-markets stocks aren't the bargains they were last fall, when stocks in the MSCI index sold at about six times earnings, on average. Price-earnings ratios are now closer to 14, about where they stand in developed markets. "We still think this asset class is attractive, but for the rest of this year and next, staggering investments is prudent," says Todd Henry, a portfolio specialist in emerging markets at T. Rowe Price. "You may be able to buy cheaper later."
For investors with three to five years to spare, emerging markets have much to offer -- such as faster-growing economies. The International Monetary Fund projects little to no growth in the U.S. and Europe next year, but it predicts China will grow 8.5%; India, 6.5%; and Brazil and Mexico, about 3% each. The U.S. will struggle with government, corporate and consumer debt for years. Many emerging markets are fiscally strong, bolstered by relatively debt-free consumers striving for a better standard of living, plus a financial sector -- unscathed by the credit crisis -- ready to bankroll the march into the middle class.
Janus Worldwide had no emerging-markets investments when Laurent Saltiel took over the fund in April. Now Saltiel has a 15% stake. Like others, he sees opportunity in Brazil, India and China. In Brazil, falling interest rates are a boon to consumer and business lending. In India, a newly elected, pro-business government should stimulate investment. The focus in China has shifted from exports to consumers, with plenty of government support. Russia -- the other component of the so-called BRIC countries -- is less attractive, with a poor track record of corporate governance.
Investors should consider putting up to 10% of their stock assets into emerging markets, says investment adviser Christopher Cordaro, of RegentAtlantic. Try a diversified exchange-traded fund -- such as Vanguard Emerging Markets (symbol VWO) -- or a mutual fund, such as T. Rowe Price Emerging Markets (PRMSX) or Lazard Emerging Markets Open (LZOEX).
Don't overlook funds you may already own, such as Dodge & Cox International, with nearly 22% of assets in emerging markets; or consider U.S. staples, such as Avon Products, the beauty-products giant that derives more than 70% of sales from overseas.