GMO argues that the real opportunity in emerging market equities comes from illiquidity rather than size, challenging the traditional small cap premium narrative. The paper shows illiquid EM stocks have outperformed by roughly 3% annually, while parts of small caps have detracted returns, suggesting investors may be targeting the wrong factor.
Emerging Market Stocks: Getting Comfortable With The Uncomfortable
GMO
Rick Friedman
Research
5 Pages
Key Takeaways
Illiquidity Drives Returns: Illiquid EM stocks outperformed liquid counterparts by about 3% annually since 2000, indicating liquidity constraints, not size, are the primary return driver.
Small Cap Misconception: Certain EM small cap segments underperformed by roughly -4.8% relative to MSCI EM, challenging the assumption that smaller companies inherently deliver excess returns.
Hidden Opportunity Set: Over 2,000 under-followed EM stocks contribute to a broader opportunity set, but transaction costs historically prevented capturing many high-return candidates.
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