Argentina, Turkey and Peru failed the investment grade set by the largest US pension fund, Calpers, but Malaysia passed with flying colours this year, an annual report card on emerging markets showed.
The $164 billion fund, California Public Employees' Retirement System or Calpers, decides in which emerging markets it will invest based on how nations score against a checklist for market efficiency, corporate governance practices, political stability and respect for human rights.
The report is widely watched as it has triggered buying into markets that made the cut and has spurred government protest from countries that failed. However, some fund managers think Calpers can be late in seeing value in some markets.
"Net-net, flows into Malaysia and other Asian markets will improve. But the key is that Calpers is behind the curve after the strong performance of Asian markets last year," said Markus Rosgen, chief Asian equities strategist at ING Financial Markets in Hong Kong.
"They are a lagging indicator rather than a leading indicator."
Calpers had just under $2 billion invested in emerging markets last year, but the activist fund has wielded outsized international influence in the past because of its reputation as a market watchdog and advocate for corporate reform.
Calpers began in 2002 considering civil liberties, including press freedom, in making investment decisions in the belief that stable countries with liberal practices would yield better returns. So far there is no evidence to show that, a Calpers staff analysis found.
A review prepared by Santa Monica, California-based Wilshire Consulting and published on Calpers' Web site at www.calpers.org found that 12 countries, including South Korea, Taiwan and Mexico and Brazil, made the fund's established standard outright.
The investment committee of Calpers is scheduled to take up the proposals at a February 17 meeting.
The review showed that Argentina, Turkey and Peru, which had made the cut in 2003, this year fell below the score Calpers board has required.
Poland was the only country that recorded a perfect score based on Calpers' standards.
The final seven countries that cleared the fund's standard were Israel, Chile, the Czech Republic, South Africa, Hungary, Malaysia and Jordan.
ASIA FOCUS: Malaysia, which was dropped from the list of approved emerging markets in 2002 because of lack of financial information and capital markets openness, made the cut this year.
The Philippines failed to make the grade again this year even though it showed improvement, the study said. The country's finance ministry last year protested its classification, saying that the data Wilshire Consulting relied on was flawed.
This year, the fund advisory service said both India and Thailand came in just below the rank Calpers requires in establishing its basket of emerging stock markets.
"Perhaps to improve diversification and take advantage of the momentum both these countries have shown, the board may wish to consider these countries as special cases," the report said.
Thailand and India, the two best performing Asian stock markets in 2003, are good value, though fund managers said.
"On fundamental valuation both (Thailand and India) look decent. On that basis, we should see inflows there," said Ayaz Ebrahim, chief investment officer for Asia-Pacific equities at HSBC Asset Management.
Foreign funds invested a record US$7.7 billion in Indian stock and bond markets in 2003. But they sold $457 million of Thai shares in 2003, according to Nomura International.
Analysts have played down the selling, saying investors were simply buying stocks in public offerings.
SUPERIOR RETURNS ELUSIVE: Calpers gave Argentina, Turkey and Peru a year to show improvement under the pension fund's established practice.
The move surprised some fund managers as Argentina's leading MerVal share index soared 104 percent in 2003, while the Istanbul share index gained 79.6 percent last year.
Emerging market investments returned a booming 52 percent for Calpers in 2003, the best-performing portfolio the public fund held last year, the report said.
But Calpers' investment in emerging markets has trailed its benchmark by almost five percent since July 2002, costing the fund $83 million in potential profit, the staff report said.