Emerging Markets
Why Alliance Trust's Stock Pickers have regained appetite for Emerging Markets
Emerging market stocks weren’t all that palatable in 2022. Russia’s nasty invasion of Ukraine played a large part in dulling investor appetite: rewriting the geopolitical equation and altering the perception of emerging market risk, particularly given the potential for a China/Taiwan flashpoint.
The war sent shockwaves rippling through the global economy, stoking inflation, and forcing global interest rates to go higher and the US dollar to strengthen. Unfortunately, as is often the case when developed economies come under pressure, emerging markets tend to suffer even worse.
Today, the picture seems different. Although the Russian/Ukraine war drags on and the West continues to wrestle with inflation, Alliance Trust’s Stock Pickers think emerging markets (EM) have plenty of opportunities to indulge in. Here’s why EM have become their flavour du jour.
Emerging markets for your portfolio
There’s a view that emerging markets should be a core part of your portfolio. Ostensibly, they are seen as riskier than developed markets due to the perception of higher economic and political volatility and lower standards of corporate governance. And yet, in addition to portfolio diversification benefits, they are also home to some of the world’s most innovative companies, nestled in its fastest-growing economies.
The investment case is tantalising for a host of reasons.
First, over the long term, emerging market growth is forecast to remain well ahead of developed markets. Although the juicy economic boost generated by the decades-long transition from rural subsistence farming to urbanisation has largely passed, the explosion of homegrown consumption in an expanding middle class sets a strong bedrock for growth in economies that house 70% of the global population.1
Second, in the near term, the wider macroeconomic picture in emerging markets seems to be improving, with inflation across many emerging countries falling and interest rates beginning to follow as supply chain issues are resolved, food and energy prices ease, and as the US dollar plateaus or weakens against numerous EM currencies, for example, the Chinese yuan, the Brazilian real, and the Indian rupee. And third, following a spell of EM being out of favour, valuations are looking attractive, especially given the potential for growth in profitability, as they catch up with developed markets over time. As a result, Alliance Trust’s Stock Pickers are finding EM a fertile hunting ground for stocks. Moreover, it isn’t all about China.
Nursing the dragon back to health
China’s long-term story is certainly impressive. It remains a flourishing economy with remarkable infrastructure that gives it an edge in global manufacturing and export. Alliance Trust Stock Picker Sands points to the “increasingly affluent middle class”, and the fact it has “plenty of daring entrepreneurs”. What’s more, its focus on building advanced sectors pave the way for long-term investment opportunities in AI, high-tech, and advanced manufacturing in areas such as electric vehicles.
These are some of the reasons why China’s stock market has become a significant beast, with its 6,000 or so companies representing 29.79% of the MSCI Emerging Markets Index.2 One investment for the Alliance Trust portfolio is Stock Picker Black Creek’s position in tech giant Baidu.
Still, while there are undeniable long-term opportunities, there remains elevated risks in the near term too.
President Xi’s move to centralise state power in recent years and rein in business has eroded the technocratic influence on policy, resulting in a heavy-handed approach to regulation. On top of shifting domestic politics, deteriorating geopolitical relations with the US are creating headaches for China, with a tech trade war that’s hobbling its ambitions to become a technologically advanced economy. And after years of drawn-out Covid lockdowns, the economy still has some recovering to do, with growth stalling following an initial post-Covid bump earlier this year, not to mention a real estate sector in crisis and unemployment high, particularly among the young.
While there’s no doubt these issues will be worked through, the Stock Pickers at Alliance Trust point to some of the exciting opportunities elsewhere in EM.
Not so fragile
Numerous markets across the EM stable look attractive, according to the Stock Pickers at Alliance Trust.
Stock Picker GQG, for example, is seeing opportunities in India as supply chains shift away from China, and as it continues its push to upgrade its infrastructure. They point to the fact that, from a macroeconomic perspective, India looks like it’s taken a page out of the “developed market economic playbook”, with “low public debt to GDP, moderate inflation, and the positive real rates of return”.3 It’s why the market has some of its “highest conviction ideas”, having come far from ten years ago when it was labelled one of the “Fragile Five” EM economies; over the decade since it has outperformed the wider MSCI EM Index by a significant margin.4
As a result, GQG, alongside Alliance Trust Stock Pickers Sands and SGA, has invested in giant Indian bank HDFC for the portfolio, with GQG remarking that “HDFC Bank has an excellent management team, strong underwriting discipline, and headroom for growth”, not to mention “significant synergies” with its parent company, HDFC–India’s largest mortgage lender – with which it recently merged.
For Sands, banks are thematically appealing not just in India but more widely across EM. In developed markets, it sees banking as a “mature industry that sells commoditised products and services”, whereas, in emerging markets, it observes “very low rates of penetration” which are creating “secular growth opportunities”.
Elsewhere, GQG is also finding opportunities in South America, for example, Brazil, where it believes concerns over the perceived extreme leftist tendencies of newly elected president Lula da Silva were overblown. It also believes the macro environment is strong, given the 1.5% fiscal deficit, attractive valuations, and inflation that seems under control. One investment picked for the Alliance Trust portfolio is Brazilian oil & gas producer, Petrobras.
Also looking to South America are SGA and Sands, with investments in dominant Argentinian e-commerce platform MercadoLibre, which SGA remarks is “well positioned to capitalise on e-commerce growth in Latin America, given its dominant e-commerce marketplace and its leadership position in consumer financial technology.”
Alliance Trust
Alliance Trust invests in emerging markets as part of a well-diversified global strategy, and is currently overweight emerging markets relative to its benchmark index, at 19.4% of the portfolio versus 18.6% for the MSCI All Country World Index.
Marcus de Silva is a Freelance Investment Writer
1. https://www.fidelity.co.uk/markets-insights/markets/asia-emerging-markets/is-now-the-moment-to-get-into-emerging-markets/
2. https://www.msci.com/documents/10199/c0db0a48-01f2-4ba9-ad01-226fd5678111
3. https://gqgpartners.com/insights/rise-bengal-tiger
4. https://www.msci.com/documents/10199/1ad792ce-3199-445c-8be3-f2a035ac782d
This information is for informational purposes only and should not be considered investment advice. Past performance is not a reliable indicator of future returns. The views expressed are the opinion of Towers Watson Investment Management (TWIM), the authorised Alternative Investment Fund Manager of Alliance Trust PLC, and are not intended as a forecast, a guarantee of future results, investment recommendations or an offer to buy or sell any securities. The views expressed were current as at October 2023 and are subject to change. Past performance is not indicative of future results. A company’s fundamentals or earnings growth is no guarantee that its share price will increase. You should not assume that any investment is or will be profitable. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.
TWIM is authorised and regulated by the Financial Conduct Authority. Alliance Trust PLC is listed on the London Stock Exchange and is registered in Scotland No SC1731. Registered office: River Court, 5 West Victoria Dock Road, Dundee DD1 3JT. Alliance Trust PLC is not authorised and regulated by the Financial Conduct Authority and gives no financial or investment advice.