Hedge Fund Strategy - Emerging Markets

A hedge fund manager investing in emerging markets concentrates on securities from markets that are moving from a centralized, government controlled economy to a western-based capitalistic system.  The manager may be using any of the normal investment strategies such as long/short or global macro (according to Richard Wilson at HedgeFundBlogger.com in his article at this link).  Because of the risks involved, the volatility of the returns is high.  Some of them include:

1. Government intervention
2. Political instability
3. Lack of liquidity
4. No accounting standards for financial statements
5. Currency risk
6. No regulatory oversight organizations such as the SEC or FSA
7. Inability to hedge because shorting securities is prohibited

Now, you may be asking why a manager would invest in such a minefield instead of investing in the US, Japan or Western Europe.  It is because emerging markets are inefficient and the smart manager has more opportunities to uncover under or over-valued securities.  For example, Altria (ticker: MO) is covered by an army of research analysts.  They are experts on every aspect of that company.  The idea that a manager will uncover a bit of news that is unknown to them is not probable.  However, emerging markets are covered by few analysts.  The same logic applies to mid-cap, small cap and micro cap companies.

One last note - emerging markets may be subdivided into frontier markets.  Frontier markets include western Africa, sub-Saharan Africa, Central America and parts of the Europe, Middle East and Asia (such as Croatia, Pakistan and Vietnam).