Investment companies in the Global Emerging Markets sector are up 21% over the past year, compared to the average investment company return of 16%1. Many developing countries have handled the pandemic effectively, while a weakening dollar has added a helpful tailwind.
Technological innovation and the expansion of the middle classes remain key themes, but the pandemic continues to present challenges for some emerging countries that have seen their economies ravaged by COVID-19.
The Association of Investment Companies (AIC) has spoken to managers from the Global Emerging Markets sector about how they are navigating opportunities and risks, which emerging economies they like most, and how they are taking ESG considerations into account.
Viewing Russia positively
Andrew Lister, Investment Manager of Aberdeen Emerging Markets Investment Company, said: “We view the Russian market positively at present. We see the ruble as undervalued, whilst the country’s sovereign balance sheet is strong, with both the trade and current accounts in surplus. Equities are attractively valued, including some of the highest dividend yields in the asset class. Increased dividend payments are reflective of much improved governance in recent years. Far from being an oil and gas proxy, the Russian market is home to many consumer and technology related companies now, and this is reflected in recent IPO activity. Politics is a perennial risk, but we believe valuations more than adequately reflect this. Russia is making encouraging progress on the rollout of its own COVID-19 vaccine.”
Mark Mobius, Co-Manager of Mobius Investment Trust, said: “We are finding attractive companies throughout the emerging and frontier markets universe. Countries with the largest weights in our portfolio are India, Brazil, Korea, Taiwan and China. All of these countries will profit from the expected recovery this year. India and China are expected to lead in terms of growth, but others will follow. We also continue to see outstanding innovation across Taiwan and Korea, particularly in the technology industry.”
Chetan Sehgal, Lead Portfolio Manager of Templeton Emerging Markets Investment Trust, said: “In 2021, East Asia will remain well placed to lead global markets. In China, we continue to see the emergence of high-quality companies that are well placed to benefit from ongoing market consolidation and booming domestic consumption. Taiwan and South Korea will continue to benefit from the structural growth in IT hardware, as well as the diversification of global technology supply chains.”
Opportunities in decarbonisation
Emily Fletcher, Co-Manager of BlackRock Frontiers Investment Trust, said: “We view climate change, rapid urbanisation, emerging global wealth and changing demographics as key megatrends that will dominate the investment climate for years to come. We believe that nowhere are these themes more prevalent than in frontier markets, with the shifting consumption habits of a growing middle class, decarbonisation and a cyclical recovery in frontier market growth; and that this will become increasingly recognised over the next decade.”
Austin Forey, Manager of JPMorgan Emerging Markets, said: “Emerging markets are becoming more like developed markets, in the sense that the value creation in the corporate sector is being strongly driven by very similar factors. Digitalisation, the development of internet-based business models, the creation of intangible value rather than reliance on physical assets – these are far more widely seen in emerging markets today than in the past. In fact, the majority of the portfolio is invested in sectors which broadly fit this characterisation – software services, internet services, gaming, consumer brands, even stock exchanges.
“We see these characteristics in companies across the breadth of the asset class. For example, MercadoLibre is Latin America’s leading e-commerce platform, with almost a third of the region’s population registered as users. Much of MercadoLibre’s current growth is thanks to its e-wallet product, MercadoPago.”
Charles Jillings, Manager of Utilico Emerging Markets Investment Trust, said: “The dominant themes in emerging markets – urbanisation and the rise of the middle class – excite us as much today as they did when we launched the fund over 15 years ago. We have seen rapid growth in urban populations, requiring significant investment in supporting infrastructure such as roads, electricity networks, ports, railways and sanitation. Today these are complemented by the rise in digital infrastructure, with 4G/5G rollout, fibre networks and datacentres resulting in the evolution of ‘smart cities’. These investments provide us with additional growth opportunities beyond what is typically available in developed markets.”
COVID’s impact on opportunities and risks
Andrew Lister, Investment Manager of Aberdeen Emerging Markets Investment Company, said: “Outside of China, South Korea and Taiwan, the COVID-19 experience has been more mixed, but one unifying factor is the more muted policy response employed by emerging market central banks. There is much evidence to suggest that emerging market economies shrunk less in 2020, will bounce back faster in 2021 and emerge less indebted than developed markets. The likelihood of vaccines being rolled out has already been reflected in improved performance in the likes of Brazil, South Africa and India.”
Emily Fletcher, Co-Manager of BlackRock Frontiers Investment Trust, said: “While there was an expectation that frontier markets would be worse hit than developed markets by COVID-19, given less developed health resources and often greater population density, thus far frontier markets have generally been more resilient. Whilst the reasons for this aren’t yet clear, these countries are often more familiar with coping with natural disasters, with greater flexibility built into their economies.”
Mark Mobius, Co-Manager of Mobius Investment Trust, said: “Oddly enough, the COVID crisis has been accompanied by booming markets and the companies in which we are invested have mostly risen in price. Of course, for the retail holdings, their offline sales have slowed but by developing online sales, they have compensated. In other cases, we have invested in health and technology related firms which have done particularly well. In general, companies in our portfolio have been able to adjust to the new conditions and have been able to adjust their operations to meet the challenge. Each country has different conditions, so for example in India, the exodus to rural areas has stimulated consumer spending particularly for infrastructure and housing.”
Charles Jillings, Manager of Utilico Emerging Markets Investment Trust, said: “In infrastructure, the worst impact has been seen in the airports sector due to travel restrictions and border closures, and it is likely to take some time for traffic to return to pre-COVID levels. By comparison, we have seen demand in road traffic, power and gas consumption, and port activity in many markets recover to deliver year-on-year growth by the end of 2020 – the impact looks to have been quite temporary. One opportunity that has clearly arisen during the pandemic has been in digital infrastructure, supporting the rapid shift to remote working and expansion in logistics to deliver goods to homes. An example here is Korean datacentre operator KINX, which has seen strong demand for cloud-based services, and whose shares rallied by 97% over the course of 2020.”
ESG becoming “critical” for emerging markets companies
Austin Forey, Manager of JPMorgan Emerging Markets, said: “Sustainable investing has always been at the heart of the team’s investment philosophy. Given both our long-term focus and our long holding periods for investments, we have always been interested in sustainability, defined in the broadest way, which is closely tied both to competitive advantage and strong economics, as well as to responsible corporate behaviour. We regularly challenge and interrogate companies on issues that are specific to what they do. For example, we recently engaged with a pharmacy company to discuss its use of inappropriate third-party advertising from a product manufacturer, to understand how a mistake had been made, what had been done about it and how repetitions would be avoided in the future.”
Andrew Lister, Investment Manager of Aberdeen Emerging Markets Investment Company, said: “2020 was a year in which investors’ and managers’ focus on ESG expanded dramatically. This is unquestionably having an impact on emerging market companies, which recognise that attracting capital is dependent on them being able to illustrate that they are actively maximising positive impacts on the environment and society whilst also maintaining the highest standards of governance.”
Charles Jillings, Manager of Utilico Emerging Markets Investment Trust, said: “Adoption of strong ESG principles has become a critical element for all emerging market companies, and is being driven by the investment community which is seeking a higher level of disclosure and responsibility. Companies which have a high degree of governance and operate sustainably have been rewarded by higher valuations, whilst those with poorer track records and exposures have lagged. This is evident in the dichotomy between companies in the renewables space versus those predominantly in fossil fuels – the share prices of the former have typically performed very strongly over the past year, while the latter have mostly languished as several major funds have disinvested.
“As an example, one can compare the fortunes of Datang International Power Generation and Datang Corporation Renewable Power, subsidiaries of the Datang SOE group, over the past year. The former, with predominantly coal-based assets, has seen shares fall by a third during 2020, while over the same period the latter, with mostly wind- and solar-based assets, saw its share price grow by over 50%.”
Chetan Sehgal, Lead Portfolio Manager of Templeton Emerging Markets Investment Trust, said: “We see improving environmental, social and corporate governance in Taiwan as a tailwind for emerging markets as a whole. Taiwan is a leader in corporate governance – illustrated by a dividend pay-out ratio that has risen from a low of roughly 40% in 2014 to near 70% now. Many companies are also leaders in terms of their environmental and social policies. In our view, Taiwan is illustrative of the broader transformation of emerging markets in the last decade toward a higher-quality asset class, with more sustainable sources of earnings growth. The pandemic has accelerated some long-term themes that have benefitted Taiwan, and that we expect to continue.”
Emily Fletcher, Co-Manager of BlackRock Frontiers Investment Trust, said: “As the world recovers from COVID-19, the higher economic growth rates that can be found across frontier markets will stack up favourably in comparison to debt-laden Western economies. Frontier markets represent close to 30% of the world’s population, 12% of total gross domestic product, and 5% of net profits. Despite this, they account for only 1% of world indices, a number that has declined significantly over the last ten years. We remain convinced that over time frontier markets’ index representation should grow towards their share of world profits, which in turn should be more reflective of their contribution to GDP. Over the longer term, as these countries become richer, we believe that considerably more than 1% of investors’ capital will be allocated to the countries in which nearly three billion people live.”
Charles Jillings, Manager of Utilico Emerging Markets Investment Trust, said: “Over 80% of the global population lives in emerging markets, accounting for 60% of global GDP on a purchasing power parity basis. The populations in these economies are younger and increasingly well educated, demanding a higher standard of living with access to services and goods. This will not be possible without significant investment in supporting infrastructure, and so we continue to see excellent growth opportunities in emerging markets. These opportunities will evolve over time – for example, 15 years ago you might have invested in coal-fired power companies in China to tap into economic growth, but with policy shifting towards cleaner energy, that investment opportunity is now in the renewables or waste-to-energy space.”
Chetan Sehgal, Lead Portfolio Manager of Templeton Emerging Markets Investment Trust, said: “The challenges of 2020 have highlighted structural advantages and other beneficial secular trends in emerging markets that bode well for 2021. The resilience of key markets in East Asia during the crisis, paired with their ability to capitalize on secular shifts to the new economy, should drive continued strength through 2021. India and Brazil, which have struggled in comparison to other emerging markets, will likely benefit from a uniquely accommodative environment of negative real rates (and an undervalued currency in Brazil), together with ongoing reform efforts and excess capacity in the economy, boosting growth.”
Mark Mobius, Co-Manager of Mobius Investment Trust, said: “The COVID-19 related impact and associated fear exacerbate the scepticism towards the asset class. However, we see that due to the spreads in valuations between developed markets and emerging markets as well as the continued out-performance in growth coupled with earnings improvements, the heavy underweight position of investors in emerging markets will not last for much longer. Ongoing monetary and fiscal stimulus globally should support a recovery in trade and growth in emerging markets. Furthermore, under a Biden administration’s likely larger deficit, we expect a weaker dollar to support the performance of emerging market equities. Therefore, we expect a sharp improvement of sentiment towards emerging markets over the coming quarters, in particular with regards to the introduction of vaccinations and a return to a more regular business environment.”