12.20.2011
By Terry Flanagan

Emerging Markets Reward Investors

With U.S. markets presenting a dichotomy for investors, it may be time to look abroad again.

The U.S. markets have surged from fundamental perspectives such as strong company profits, and earnings, but have lagged in areas such as the labor market and for investors, dividends.

“U.S. companies have experienced a comeback this year, but why aren’t investors being rewarded with dividends? Where is that extra money going? Certainly not into hiring people,” noted an unnamed source.

Morgan Stanley Smith Barney (MSSB) Chief Investors Officer Jeff Applegate encourages investors to look abroad for dividends, according to the firm’s year-end December 2011 outlook.

“Dividend payouts, as a differentiator, give the emerging markets a whole new possible tagline—a place to go for yield,” he stated. “Even more important is dividend growth, for which emerging market equities have far outpaced the S&P 500.”

The emerging markets dividends per share are up 8.4% on an annualized basis over the last five years as companies distributed more of their earnings via payouts to investors, according to an MSSB report.

However, the MSSB investment team is keen to note that investors should not be looking at dividends entirely.

“Investing for an attractive dividend is inadvisable without vetting the underlying investment. After all, the dividend yield on European stocks is 4.1%, but with the Euro Zone likely in recession, there is heightened risk in equities,” Applegate said. “While local recessions are not an issue for the emerging markets, Morgan Stanley economists have recently pared their GDP growth forecasts for the emerging markets.”
Moreover, a long run of strong corporate earnings may be a misnomer, so investors should beware of any steadfast long-term faith to U.S. companies.

“Consensus earnings-per-share growth forecasts are also coming down, most recently standing at 10% for 2011 and 11% for 2012. At current valuations, investors appear to be pricing in a 29% drop in earnings for next year,” Applegate noted. “Our view is that the damage to profits is likely to be less than currently expected, which should provide an underpinning for the stocks in 2012.”

Thus, the idea of more volatility within the equity markets is catching steam. MSSB advocates diversification in one’s portfolio to aid investors in an “unsettled economic environment.”

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