Unwinding The Bear Case
The state of play
More than just a thin ray of light has been shed on Emerging Markets (EM) in the last few months. Equity markets and short term minded investors alike have revelled in a cocktail of a recovery in commodities, a lower for longer interest rate outlook in the US and more positive data coming out of China which has really packed a punch – the MSCI Emerging Markets Index is up +34.7% from its January lows. Whilst we concede equity markets the world over are rising, there is a certain congeniality to Emerging Markets relative to their more developed counterparts. First and foremost they are attractively valued with a Price to 12 month Forward Earnings ratio of 11.3x vs. 15.6x in Developed Markets. Secondly, they are not subject to the real time experiments which monetary policy makers are toying with in Europe, the US and Japan. What does this mean for investors? Well in simplistic terms, the “old fashioned” economic state of play in EM means that bonds offer yield and equities offer capital gains – a rarity in the current economic climate.
Heard it all before...
Investors have been here before. Clearly there is a risk that the excess “hot” QE money which is currently being deployed can evaporate just as quickly should sentiment change. Our view is that investing in Emerging Markets should be a selective exercise instead of just donning the macro waders and going all in. The media has put a very positive spin on Emerging Markets of late, much like they might put a positive spin on a boating holiday. You still need to pick the right region and investments, just like you still need to pick the right destination… and boat.
Address the Chinese elephant
Although we are finding opportunities in Asia, we are well aware that the region is heavily impacted by China which presents risks. Growth may have picked up in 2016 but this has been largely a result of fiscal spending by the Government in areas like property which may not be sustainable. So far this spending has not sparked additional private investment which was a common theme in previous cycles. There are also clear concerns about further devaluation of the Yuan and slowing demand for resources.
Huge contrast between private sector and state sector fixed investment in China
Source: CEIC, Capital Economics
Higher levels of concern on any of these could see the market turn sour towards Asia very quickly. There are, however, openings from within the tertiary economy as China becomes more of a consumer led economy. Much like in the West, the evolution of the internet and use of mobile apps has created an exciting range of companies which are capturing the changing consumer landscape. From online flash sale retailers to differentiated mobile gaming providers there is cause for optimism amongst stock pickers, even in China.
Across much of the asset class we are seeing evidence of a rising middle class with growing disposable income driving corporate earnings in specific sectors such as consumer services and technology. This is especially notable in the ASEAN region; countries like Cambodia and Vietnam are presenting us with great opportunities driven not only by these trends but also by dynamic changes in regulation. Some of the companies on which our Southeast Asia investment team have highest conviction, like Vinamilk which is Vietnam’s largest dairy producer, could benefit from these themes for decades to come whilst also reaping the rewards from a change in foreign ownership laws allowing non-domestic investors full access to share ownership – something which up to now has not been permitted in Vietnam. Elsewhere there are positive signs of political and structural reform in India and parts of Latin America.
Whilst we remain cautious and watchful of resource and export led sectors, our focus is identifying high quality investment opportunities across selected pockets in EM. Within these favoured areas our aim is to invest in well run companies with sustainable business models whose earnings are likely to benefit from positive demography. Although we aren’t piling in to the asset class, a small and measured allocation to these ideas brings clients non-sterling based diversification.
By Jonno Ross
The views and opinions expressed are the views of Waverton Investment Management Limited and are subject to change based on market and other conditions. The information provided does not constitute investment advice and it should not be relied on as such. All material(s) have been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy of, nor liability for, decisions based on such information.
Changes in rates of exchange may have an adverse effect on the value, price or income of an investment.
Past performance is no guarantee of future results and the value of such investments and their strategies may fall as well as rise. Capital security is not guaranteed
The information relating to ‘yield’ is for indicative purposes only. You should note that yields on investments may fall or rise dependent on the performance of the underlying investment and more specifically the performance of the financial markets. As such, no warranty can be given that the expressed yields will consistently attain such levels over any given period.
 July Caixin PMI rose to 50.6 in July (source: Capital Economics)
 Figures accurate as at 17th August
 As at 4th August (source: Capital Economics)
Jonno Ross - Funds Distribution
Jonno joined Waverton in November 2014 to support our Fund Distribution team. He is responsible for funds support along with business development for all Waverton Investment Funds. Jonno graduated in July 2014 from Exeter University with a degree in Spanish and French. He holds the CFA UK Level 4 Certificate in Investment Management.