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Jerome Booth, head of research at $33 billion-in-assets Ashmore Investment Management in London, was having lunch in Munich last month with a large German institutional investor who was crowing about changes he had made to his portfolio. After years of hearing Booth preach about the need to dramatically increase exposure to emerging-markets economies, the investor excitedly announced that he had shifted his conservative stance and doubled his allocation — to 10 percent. Unimpressed, Booth deadpanned, “So you’re still comfortable with 90 percent in the crash zone?”

Ralph Layman, Ramin Toloui and Allan ConwayMany institutional investors are fundamentally rethinking their approach to emerging markets. Attracted by the powerful growth of economies in countries such as China, India and Brazil, investors have been putting more of their money in these markets. The debacle in Greece, concerns about the future of the euro and worries about debt levels in developed countries are providing more reasons for investors to shift their weightings. Fund managers increasingly regard emerging markets as a core part of their portfolios rather than a high-risk sector that they can flit into and out of tactically in an effort to boost yield, says Allan Conway, head of emerging-markets equities at Schroder Investment Management. The London-based fund manager has $24 billion of its $255 billion in assets in emerging markets.

As part of this shift, many investors are setting their own allocation targets for emerging markets and using specialist managers with extensive footprints in these regions to build up positions, instead of leaving the job in the hands of generalist global managers. Larger institutions are expanding their direct presence in emerging markets while others are using exchange-traded funds as a low-cost means of increasing their exposure. Investors are diversifying within the emerging-markets space, moving beyond basic equities to put their money in fixed-income securities, private equity and infrastructure investments. And they’re moving further afield into frontier markets in places like Africa, seeking higher returns. According to a survey of large, mostly U.S. institutional investors published by Bank of America Merrill Lynch late last year, emerging-markets equities are the most desirable asset class, with 42 percent of respondents planning to add to their positions over the next 12 months. By contrast, 39 percent said they were planning to reduce their exposure to large-cap U.S. equities during the same period.

Yet for all of the recent changes, most U.S. and European investors are still woefully underweight in their emerging-markets holdings. “People understand the emerging markets are a big opportunity,” says Richard Titherington, CIO and head of the emerging-markets equity team at $1.2 trillion-in-assets JPMorgan Asset Management in London. “But the average pension fund thinks it is overweight at 5 percent. They need to dramatically rethink that and go to 20 percent.” According to the BofA Merrill Lynch survey, U.S. institutional investors’ allocations to emerging-markets equities range from 2 to 15 percent and average between 3 and 5 percent. The $50.1 billion Virginia Retirement System has a weighting of 5 percent, the $22.9 billion Connecticut Retirement Plans and Trust Funds has 4 percent, and Boeing Co.’s $71 billion defined benefit plan has 2 percent.