Still Bullish On Emerging Markets

By Murray Coleman

When Northern Trust (NASDAQ: NTRS) filed last October to enter the exchange-traded funds market, all signs pointed to a major marketing coup by the Chicago-based financial giant.

Although late to the retail marketplace, among the ETFs registered with the Securities and Exchange Commission was a true all-global fund. In one portfolio, Northern Trust was going to make available stocks from the U.S. and developed international markets along with emerging markets.

For total stock market fans, it seemed a new day was dawning.

Well, it was for them. But Northern Trust got beaten to the punch. On March 28, Barclays Global Investors launched the iShares MSCI ACWI Index Fund (NASDAQ: ACWI). (See related story.) Within days, the Vanguard Group filed to start its own all-global fund. (See related story.)

Meanwhile, on April 9, Northern Trust finally hit the ETF market with six single-country funds. (See related story.)

So is Northern Trust going to lose its first-mover status in this new marketplace?

Steven Schoenfeld, the company's chief investment officer for global quantitative management, says there figures to be plenty of assets still available for early movers in the all-world ETF market.

"We believe the movement by investors to take a more integrated view of their equity allocations is a very powerful one. This is a long-term trend and a lot of investors are still in the early stages of allocating their assets in more segmented ways," he said.

Northern Trust, Schoenfeld adds, prefers to take a step-by-step approach. The firm will set its ETF table first with more targeted portfolios for those already looking at gaining exposure to specific international markets. Then, presumably, will come the icing on its global cake.

"Clearly in the long run we believe in the product set we're developing," said Schoenfeld last week after Northern Trust's initial launches were complete.

"We knew the total global market in a single-equity vehicle was an idea whose time had come. But we also were fully aware that others might be inspired by the same concept."

Stepping-Stone

Ironically, Schoenfeld was the main driver who got Barclays to develop an all-world ex-U.S. index fund for large institutional clients. BGI came out with the first such stepping-stone to a true all-world portfolio in 1997. That was before iShares were even born and Schoenfeld was head of BGI's international equity strategy group.

Even with the new ETFs launched by BGI, Schoenfeld believes that Northern Trust fund will be more complete. In other words, "Having the total global market and some of its subsets makes a lot of sense as investors increasingly look overseas and look at the world's equities as a global marketplace," Schoenfeld said.

The firm started setting its table, so to speak, with the six most well-known indexes in each country. That's significant, Schoenfeld says, since now investors in the U.S. can track major indexes after overseas markets have closed.

In time, he sees indexing geeks blogging on the Internet about technical signals they can garner from a wide universe of ETFs tracking all of the major benchmarks around the world - in their own local time.

"These first six indexes and the bulk of the next dozen or so we'll be bringing out are the recognized flagships for each market. They represent the most liquid and transparent constituents," Schoenfeld said. "It's bringing these foreign markets closer to the U.S. marketplace."

[Note: Schoenfeld is the founder of IndexUniverse. But he no longer has any direct ownership or editorial involvement in the site or its parent company.]

And I've also talked with Schoenfeld over the years on a variety of occasions for different stories and publications. He has always been at the top of my list for providing expert analysis on investing matters.

But my favorite topic to address with Schoenfeld always relates to his overriding passion of studying the convergence of indexing and global market forces. In our most recent discussion, he related the wonder of being a 22-year-old Fulbright scholar at the University of Singapore and watching history being made from a front-row seat.

"It was in the mid-80s, and the Singapore exchange had formed a partnership with the Chicago Mercantile Exchange," Schoenfeld recalled. "It was the first foreign exchange to be linked. You could buy a futures contract in the U.S. and get out of it in Asia."

But with many arguing that short-term correlations between the U.S. and developed foreign markets remain at historically high levels, I had to ask him about the logic of global portfolio diversification. "If you look at long-term diversification benefits for a global portfolio, they definitely still exist," Schoenfeld said.

A good recent example he points to is emerging markets. While they've taken their lumps in the past six months along with developed international markets, Schoenfeld notes that many key developing markets have held up better - and with less volatility.

Northern Trust's starting point for most institutional investors in a diversified portfolio (including the U.S.) is at least 10% in emerging markets. Excluding the U.S., that would equate to about 20%.

Schoenfeld's strongly in the camp of those who see real structural change in emerging markets. He argues that developing countries have significantly fortified their local currencies and economies while strengthening their financial institutions to operate as fluid and fully functional systems.

Operational Constraints A Key Factor

"As global asset managers, a key factor we monitor is any operational constraints in developed and emerging markets," Schoenfeld said. "And we continue to see emerging markets make steady improvement, with a few exceptions such as Colombia and Greece."

Greece has been considered a developed market. But it has been put on FTSE's watch list for possible demotion into emerging markets indexes.

Schoenfeld points to that example to show how small the world has really become these days. "There are more groups watching out for shareholders rights and trends than ever before," he said. "At the same time, what's bad for one country doesn't drag down all emerging markets."

Some of the most interesting countries to him for adding to core international holdings are Ireland and Portugal. He's also bullish about the prospects for Singapore, which he believes is positioned with a strong currency and economy to become the Switzerland of Asia.

And with Israel set to graduate to developed market status in June in FTSE indexes, Schoenfeld says broad reforms and continuing improving conditions are in the cards for many developing nations in coming months.

"These countries have some interesting and unique diversification attributes," he said. "After a weak opening to the year, we're seeing relative strength in some of these markets at a time when other parts of the developed world are still suffering from market dislocations."