Practical analysis for investment professionals
19 December 2017

Emerging Market Mindsets: Don’t Forget the Rest of the World

Most financial best practices originated in developed economies.

And while best practices and ethical principles endure regardless of locality, they can be challenging to implement in underdeveloped markets where the operational framework may be quite different.

There are certain unique challenges I face as a practitioner in the United Arab Emirates (UAE) that would be completely foreign to professionals in the United States or Europe. For example, in the UAE, the vast majority of city residents are non-Emirati: Only about 10% to 20% are UAE citizens. Practically speaking, this means that people have many different “wealth paradigms” depending on the culture in which they grew up.

For many UAE residents, the concept of investing and wealth management means buying gold or real estate, gambling in the local stock market, or starting a small business. Such global financial assets as exchange-traded funds (ETFs), diversified mutual funds, and fixed income are not on their radar.

Along with this somewhat limited view of wealth management, they often hold unrealistic risk-reward expectations: A 25% annual return with very little downside potential does not strike them as unreasonable.

These factors combine to create a challenging environment for any investment adviser.

Developing equity markets have experienced a much different risk-reward journey over the past few decades than their developed counterparts, with much greater volatility in both risk and investment returns.

Russian equities, for example, at their nadir, underwent a 91.8% drawdown.

Developed vs. Emerging Market Equity 1995–2017Developed vs. Emerging Market Equity 1995–2017


Source: MSCI
Note: These are price return indices and do not include dividends.

In my career, I have found investors’ expectations are set by and reflect their home country experience. This explains why home country bias is so universal. How would an investor raised in China, who had returns of 151% in their best year and a 79% drawdown in their worst, perceive equity investing? Like gambling.

We have to educate clients to move them from a localized, extreme volatility-return paradigm to a broader, globally diversified understanding.

Regulatory Frameworks

Credentialing is another factor that distinguishes developed and emerging markets.

In the United States, investment managers must meet licensing requirements to advise clients and invest on their behalf. Depending on the emerging market, there may be little if any licensing requirement.

This means many untrained or unscrupulous advisers enter the market, and through their excesses and shortcomings, paint the whole industry with an unfavorable brush. Often advisers are great salespeople, but have little facility with product selection or implementation.

Fee Structures

Transparency and fee-based compensation are best practices in developed financial markets. Emerging markets, however, sometimes have opaque fee structures and large up-front commissions — all wrapped up in life insurance products. Talk about complicated!

In the United States, there is a broad effort to lower fees and an ingrained understanding of why it is necessary, whether from the underlying funds — low-cost ETFs, for example — or the adviser. But in emerging markets like the UAE, there is a culture of high up-front commissions that can lead to conflicts of interest.

Investment products in the UAE too often carry a 4% to 6% annual fee embedded within four or five layers of fees. As a result, clients may not see any positive performance on their investments.

A Noble Calling

Providing cost-effective and high-quality investment options to clients is important for a country’s stability as well as for global growth. It is a difficult and noble calling.

But when operating in developing markets, investment professionals must be ready for unique challenges.

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

Image credit: ©Getty Images/GeorgeManga

About the Author(s)
Steven Downey, CFA

Steven Downey, CFA, is a personal wealth manager with Holborn Assets LLC where he advises clients using a value and momentum strategy. Before Holborn Assets, Downey worked in finance and accounting, helping SMEs and startups flourish. Working in the UAE has afforded Downey the privilege to educate and help individuals from around the world grow their wealth. Downey is a member of CFA Society Emirates.

2 thoughts on “Emerging Market Mindsets: Don’t Forget the Rest of the World”

  1. Alexander says:

    Actually, MSCI Russia is up 6.6 times since 1995. That’s 9% annual return, not 31%. Possibly, the author calculated in local currency but that doesn’t make sense for an international investor.

    1. Steven Downey says:

      You are right that Russia has not enjoyed a 31% compounded GEOMETRIC average return, but as I mentioned in the table it is average annual return. Russia actually had about a 8.3% compounded geometric annualized return from 1995-2017. What leads to the discrepancy? The huge volatility drag of 50% standard deviation with the best year having 246% return and worst year of -83% with 6 years lossing more than 20%.

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