Should you still be investing in the UK?

The UK stockmarket entered bear territory summer 2008 and the outlook for the economy and housing market for the year remains far from rosy. With house prices falls of 10% predicted in 2008 alone, and no end in sight, economists are united in the belief that we'll be hard-pressed to escape a recession before the year is out.

Emerging from beneath all this doom and gloom, however, are the voices of global fund mangers who believe that the current round of ever-more depressing news, should provide a wake-up call to UK investors. They reckon it's time to review where we're investing and re-adjust our portfolios in favour of more profitable markets - in particular the emerging markets.

James Budden, managing director of Witan Investment Services, explains: "If you look at where growth is, then it's clear that the emerging markets have quite a lot more in the way of growth potential than the mature markets of the West, which are struggling under a weight of debt. These economies are in a fairly ropy state at the moment."

Peter Bickley, chief economist at Tilney Investment Management, agrees. "The returns to be gained from looking around and finding the emerging multinationals just knock those possible from the domestic stockmarket into the shade. A good example is the emergence of at least a dozen Indian multinationals over the last decade," he adds.

Peter Hicks, executive director at fund manager Fidelity International, also thinks the time is ripe for a rethink. He points out that the majority of UK investors have just 2.3% of their portfolio in emerging markets, yet a quick glance at the sums reveals that these economies now account for 30% of global gross domestic product. By contrast, Hicks claims the UK accounts for less than 5% of global GDP.

Emerging markets

Hicks argues that seven of the world's largest 20 economies are emerging markets - China, Russia, Brazil, India, Mexico, Turkey and Indonesia.

Separate research from investment bank Merrill Lynch and consulting group Cap Gemini also confirms the outperformance (relative to the UK) of the stockmarkets of the first four of these countries in 2007. It records that China's Shanghai exchange clocked up a 96.1% return; India's Bombay Sensex, 47.1%; Brazil's Sao Paulo Bovespa, 43.6%; and Russia's RTS Index was up 19.2%.

Meanwhile, the UK's FTSE 100 (UKX) rose just 3.8% in 2007. Admittedly, these stellar rises should be taken with a hefty dose of caution; it's unlikely that they'll be repeated indefinitely. Indeed, after the first six months of 2008, of the BRIC economies (Brazil, Russia, India, China), only the Brazilian exchange is in positive territory so far - up 12.6%.

However, while these economies may be providing investors with something of a roller-coaster ride, the consensus is that Brazil and Russia are rich in natural resources, while China and India both have a burgeoning middle class eager to spend their newly acquired wealth. As a result, the long-term prospects for these emerging markets mean that their GDP will continue to expand, and with it their respective stock exchanges.

Many managers running UK funds contend that their funds do give investors access to global growth via UK-listed multinationals such as BP (BP-) and Shell (RDSB). However, by rethinking the percentage of UK companies in your portfolio, you could free up room for multinationals domiciled elsewhere as well.

Figures from the Association of Investment Trust Companies underscore the out-performance of emerging market investment trusts over the last decade, compared with UK trusts. The AIC's research reveals that global emerging market trusts were up an average of up 262% over five years and 330% over 10. By contrast, the average gain for UK growth trusts over the same time frames was 88% and 78% respectively.

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Mike Jennings, manager of the Premier Global DSR fund, which launched in May 2008, is one of those who believes that investors should rethink their exposure to the UK. Jennings told Moneywise that his fund takes a truly global approach to equity selection and will not be skewed towards the UK. He believes there are greater opportunities to be had by thinking globally.

Jennings takes a very controlled approach to investing. This means that even if he likes a company he will not buy it unless he feels the price is right.

During summer 2008, not one of the top 10 holdings in the fund was British, although it includes the likes of Nasdaq-listed Microsoft (MSFT), New York-listed Syngenta (SYT), the Swiss crop group, and Brazilian oil giant ADR Petroleo Braisleiro.

Explaining the presence of Syngenta in the fund, Jennings says: "We know the prices of corn and rice have risen manyfold over the last year. Unfortunately, this is a multi-year problem for the world - the global population is rising and as it does the demand for food rises. Added to this, 20% of corn produced in the US last year went to the manufacture of ethanol for fuel.

"It's classic economics, demand is rising, supply is tight and the price is very high. One classic beneficiary of this is Syngenta. This company is one of the world's leading producers of seeds, and provides products like drought-resistant strains."

One big market

Witan Investment Trust (WTAN), which went multi-manager four years ago, is another fund that has recently upped its exposure to emerging markets.

Witan's marketing manager James Budden explains: "If you went back to just before we went multi-manager in 2004 we were 60% UK and 40% rest of the world. At that time we went 50/50, and as a result of our review last year we went 60% rest of the world and 40% UK, so that is now our benchmark and illustrates our strategic direction. The world is becoming one big market and the UK's part of that is shrinking."

Meanwhile, figures from the AIC show that over the last 10 years the top emerging market investment trusts have produced stellar returns. Templeton Emerging Markets (TEM) is up 341%; Advance Developing Markets (ADD) is up 321%; Genesis Emerging Markets (KGEM), 320%; while JPMorgan Emerging Markets (JMG) has risen by 307%.

Of course, hunting out the companies set to profit from tomorrow's growth is one way to tap into the developing economies, but there are others.

Infrastructure and energy resources funds focus on specific aspects of the expected growth in emerging markets - namely, helping newly wealthy countries to build roads, railways and power stations, and extract minerals or oil. For example, Mark Dampier, head of research at IFA Hargreaves Lansdown, points out that the First State Global Infrastructure fund, launched last autumn, is well positioned to capitalise on the urbanisation of emerging economies.

Just because a global-oriented fund may offer much greater potential than UK funds in the current climate, you shouldn't necessarily abandon the UK altogether. It's just a question of striking the right balance.

One reason why investment managers, even those with global remits, have traditionally held UK stocks is for income. UK companies pay some of the highest dividends around, which can be crucial if you're relying on dividend payments to top up your pension or other sources of income.

Indeed, the Investment Management Association reports that in May 2008, 11.8% of all the money looked after by its members was in UK income funds, suggesting that income is an important factor in investment decisions for a lot of investors.

Budden acknowledges the juggling act that you have to perform to provide income today while seeking returns for tomorrow. Witan is committed to increasing its dividend and recently announced a 4.9% increase (to 4.3 pence) to be paid in December 2008.

He says: "One of the reasons we've been pretty conservative with our weighting in the UK is that we have a progressive dividend policy and are committed to paying a growing dividend. In that respect, the UK is still a high-yielding economy as far as the stockmarket goes."