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Are You Panicking Over the Emerging-Markets Slide?

Tumble is a good time to take a look at how some funds performed.

Gregg Wolper, 05/30/2006

"Fears Over Interest Rates Send Emerging Markets Tumbling"
"Dealing on Indian Exchange Suspended"
"Worst Emerging Markets Run Since Russian Default"

These alarming reports, which appeared in the May 23 editions of The Wall Street Journal and Financial Times, indicate the depth of the slide in emerging markets around the world. And while those items referred to a single day's carnage, the decline has been going on for weeks now. As a result, after several years of stupendous gains, suddenly emerging-markets funds are showing some serious short-term losses.

It's rarely worthwhile to try to draw deep conclusions from such a brief period. And it's true that the United States and other developed markets were also falling. But emerging markets were taking the biggest hits by far. So this episode does provide an opportunity for reflection and offers a chance to answer some questions. For example, given the structure of certain emerging-markets funds, are they reacting during a sharp sell-off as one would expect? Separately, how are you yourself responding--and what does that mean for your investment decisions? For the first time in awhile we've got a chance to check up on these matters.

Looking in the Mirror

Let's start with the latter question--how you've reacted to the slide in emerging markets. If you find that you're shocked or overly nervous in response to the sharp losses either in emerging-markets funds you own or in those markets in general, now's a good time to reassess whether you should own such funds in the first place.

After all, in the wake of three years of fabulous gains, the chance of a stumble was strong. Even without such a powerful rally, the threat of painful losses in emerging markets is always present. That's true even though some companies in emerging markets--Korea's Samsung and Brazil's Embraer are just two examples--have become global leaders in their fields and many of the overall markets are not nearly as raw or untested as they were in previous decades. One reason these markets contain such dangers is that they still tend to attract a great deal of "hot" money when they're rising--meaning money from international investors who are looking for the latest, best short- or mid-range opportunity and who are ready and willing to exit quickly when the tide turns.

So far, this current slide is mild both in amount and duration relative to other emerging-markets drops. Therefore, if you're spooked by this, consider how you'll feel if the markets plunge much further--over the span of, say, two years. The average Pacific/Asia emerging-markets fund lost 30% in 1997--and then lost another 5% the next year. Lengthy stretches in 1994-1995 and 2000-2001 also featured staggering losses in emerging markets. If you aren't convinced you'll hold on through that, or if the prospect of such an episode is too unsettling even to contemplate, stick to broader international funds that have emerging-markets exposure but maintain the overwhelming percentage of their holdings in Western Europe, Japan, Australia, and Canada. If you're particularly keen on emerging markets, you can find broad international offerings that have significant stakes in such areas without overdosing on them.

Looking at the Funds

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