Fund name: Fidelity Emerging Europe, Middle East, Africa (EMEA) Fund (FEMEX)

Objective: The fund seeks capital appreciation which it will pursue by investing in securities of emerging Europe, Middle East and Africa issuers and "other investments that are tied economically to the EMEA region." Fidelity offers "an Austrian bank that gets more than 50% of revenues from Emerging Europe" as an example of such an investment. There are 80 countries, 1000 investable stocks and 1.5 billion people in the region. Fidelity’s list of major EMEA markets includes Russia, South Africa, Israel, Turkey, Poland, Egypt, Czech Republic, Hungary, Morocco and Jordan. The fund can invest up to 35% of its assets in a single industry, so long as that industry represents at least 20% of the EMEA market as a whole. One intriguing proviso: "The fund does not currently intend to sell securities short."

Adviser: FMR.  Fidelity has an amazing array of affiliated companies domiciled in different nations.  The management of this fund involves a half dozen of them.

Manager: Adam Kutas. Kutas joined Fidelity in 1996, apparently in the firm’s Canadian operations (called FICL = "fickle"?). He started as an equity analyst, then managed FICL's fund analysis and research group from 1997 to 1999. In 1999, he moved to Boston and joined the Canadian Equity Research team, following Canadian equity securities across a variety of sectors. He also managed the portions of the Fidelity Canadian Disciplined Equity fund and managed the FICL RSP (retirement) funds, which appear to be clones of other mutual funds whose existence is required by the quirks of Canadian law. He joined the Latin America Research Team in February 2004, and followed the banking, energy, mining, paper, steel, and transportation industries. He was named co-managed of Fidelity Latin America (FLATX) in 2005 and did an excellent job through his departure in 2007. He also won the "Fidelity High Achiever Award" in 2003 and 2004 and, while I have no idea of what that means, it does sound promising.

Management’s Stake in the Fund: None, both because the fund is new, and because the manager is domiciled in the U.K.

Opening date: May 8, 2008

Minimum investment: $2,500 for regular or retirement accounts. There’s a $100 minimum for accounts opened with an automatic investing plan, but such accounts incur a $12 "low balance" fee until they reach $2000.

Expense ratio: 1.25% after waivers. There’s a 1.5% redemption fee on shares held fewer than 90 days.

Fidelity takes a slightly different tack than T. Rowe did. The Fido fund adds Emerging Europe to its coverage, while Price has a separate fund (T. Rowe Price Emerging Europe and Mediterranean TREMX) profitably devoted to the region. TREMX has returned 38% annually over the past five years.

There are two questions confronting potential investors in this new Fidelity fund: (1) should you invest in this region and, if so, (2) should you do trust Fidelity to do it for you. There are pretty good reasons to believe that the answer is "yes" to both.

There are three arguments for investing in the frontier markets.

• These markets have enormous growth potential. On whole, EMEA countries have growing populations and a rising middle class, which is driving both economic growth and an opening of their financial markets. In addition, the International Monetary Fund has arranged forgiveness of much of Africa’s debt (the G-8 nations wrote off $40 billion in 2005 alone) which frees up capital for more productive projects such as infrastructure. As a result, the few investors in the region have made buckets of money: Antoine van Agtmael of Emerging Markets Management (Arlington, VA) estimates that frontier markets have returned, over the past decade, four times as much as other emerging markets. The manager of Eaton Van Tax Managed Emerging Markets fund puts the frontier returns at 18% annualized over the past decade, against 6% in developed markets. With 25% of the world’s population, they still account for only 1% of its stock market capitalization.



• These markets are really good diversifiers. Not surprisingly, markets in the EMEA region tend to have low correlations with both the U.S. stock market and with the stock markets in other developed nations. By way of example, the correlation between the U.S. and emerging Asia is 0.78 while the U.S. correlation with South Africa is 0.49 and Turkey is 0.54. A more interesting development is, according to Fidelity’s research, that "the region also benefits from low inter-correlation between EMEA countries. The inter-market correlation can lead to decreased absolute volatility, thus leading to an attractive risk return profile." At base, the fact that the Russian part of the portfolio is tanking won’t have a contagion effect on the South African part. The correlation between Russia and South Africa (0.42) is even lower than the correlation between the U.S. and South Africa.



• These markets serve as an interesting proxy for a commodities investment. Using the U.S. Geological Survey’s Mineral Commodities Summaries (2007), Fidelity concludes that "in addition to its significant human capital, the region contains the majority of the world’s proven oil reserves and natural resources." Not surprisingly, these markets show a high correlation to the commodities indexes.

Jane Bryant Quinn wrote in April that frontier markets are "an investment for crazies" ("Reward, and Risk, on the Frontier," WashingtonPost.com, 4/27). I guess I’m less sure that it’s crazy. It’s true that these markets are volatile, but uncorrelated volatile assets can work to dampen overall volatility in a portfolio while adding alpha since there’s always something "high" to sell and "low" to buy. It’s also true that these markets are unevenly developed and, in some cases, ruled by authoritarian kleptocrats (here’s a hint: it rhymes with "Prussia"), but fund managers know that and aren’t compelled to sink money into the Zimbabwean stock market (despite the occasional 5,000% monthly rise).

Taken together, the frontier markets now account for the same fraction of the world’s stock market – 1% – that all emerging markets, combined, did in 1987. Since then, the emerging markets stocks have risen twelve times faster than has the rest of the world, and they now account for 12% of the world’s equity market.

There are three arguments for this fund in particular as an avenue for frontier market exposure.

• The manager has an extremely credible track record in emerging market investing. Mr. Kutas has been researching, and investing in, emerging markets for four-plus years. His specialty is Latin America, whose markets are sufficiently similar to EMEA’s that Fidelity decided to include the Latin American research team as advisors to this fund. During his tenure as co-manager of Fidelity Latin America (FLATX), covering most of 2005 – 2007, the fund returned 32%, 45% and 62%, which was above average for its peer group. He kept turnover moderate (50%) and managed the fund through a period of explosive asset growth, up from $500 million at the start to 2005 to $3.7 billion at the end of 2007. He and his co-manager deployed the money quickly and kept the fund about 90% invested despite the substantial inflows.

In general, he seems to be an all-cap, value kind of investor. Fidelity argues that Kutas "believes that there is a higher probability for alpha in stocks with attractive or low valuations (i.e. "value" stocks) than in fast growing but expensive stocks (i.e. "growth"). He will not, though, invest in value for value’s sake. He spends a substantial amount of time identifying key catalysts to unlock this value."

• The manager can tap into an enormous pool of analytic resources. There’s a set of London-based analysts who serve both this fund and its British counterpart. In addition to that dedicated group, there’s a far larger research infrastructure available to support the fund. The Fidelity folks shared with me that structure of the analytic team:



• "Members of the EMEA team leverage the research of over 600 Fidelity investment professionals (analysts and portfolio managers) located in cities across the globe. The broad reach of Fidelity Research provides the EMEA Analysts with a perspective on the global environment in which many EMEA companies are operating.



• Emerging Market Debt (EMD) Team – Together, Fidelity’s Emerging Markets Debt and Emerging Markets Equity Teams form a broader Emerging Markets Group. In addition to the EMD team located in Boston, the EMEA team is supported by an EMD sovereign analyst located in London. Members from each team meet formally in group meetings, and informally to discuss the investment climate. In addition, members from both teams often travel together.



• Political Analyst – The emerging market group benefits from a political analyst who evaluates political risk and provides analysis on the potential investment impact of government policy in foreign countries.



• FMR Latin America Team – Due to the investment similarities between the Latin America region and the EMEA region, the portfolio manager’s tenure on the Latin funds and in light of their proximity to each other in Fidelity’s organizational structure, the portfolio manager utilizes the insights of the Latin America Team located in Boston."

Fidelity makes a strong argument that the sheer size of their research effort is an enormous competitive advantage for them, much more than it would be in a developed market. Developed markets are relatively efficient – information is transparent and easily accessible, which means that a small team of bright, original thinkers can compete successfully with much larger organizations.

The situation in the frontier markets is substantially different. Their argument is that these markets offer systemic pricing anomalies. Here’s their explanation of "semi-efficient" market investing:

If true, the fact that Fidelity has enormously more "boots on the ground" than their competitors means that they can keep far better track of, and make far quicker reactions to, highly fluid situations than can their peers.

• The fund has a substantial cost advantage. The expense ratio is capped at 1.25%, which is 50 basis points lower than its peer average. It is, out of the box, one of the ten least expensive emerging markets funds available to retail investors.

Bottom Line: What can I say? I bought shares of TRAMX at its opening in September and shares of this fund at its opening in May. Despite having recently suffered through my 52nd rendition of the "you can’t legally sing it without paying royalties to Summy-Birchard Music and the Hill Foundation" birthday song, I still have a long investment horizon. For folks thinking in terms of years, frontier markets strike me as dangerous speculation. For folks thinking in terms of decades, they strike me as timely, powerful tools. Both Fidelity and Price offer the sort of seasoned managers, large research corps, and rational investing discipline to make them good choices for folks who agree.

Nota bene: I’d like to offer my thanks to Sophie Launay, one of Fidelity’s media relations specialists. She did a wonderful job in gathering timely, detailed responses to a bunch of my questions from members of Fidelity’s EMEA group. I’m delighted, relieved and impressed. And, too, she has such a cool accent.