This article is part of Your Guide to Emerging Markets. All this week, we are focusing on emerging markets, sharing their potential pitfalls – and where you can make a pretty penny.
Investors in emerging markets have continued to be rewarded, with the MSCI Emerging Market Index slightly outperforming the global MSCI All World Country Index year to date adding to the substantial outperformance seen during 2017. Last year’s returns were strong and dominated by China at the country level and technology from a sector viewpoint.
Digging deeper reveals further concentration in terms of individual stocks, with just five companies accounting for over a third of the gains seen. These names were Tencent (00700), Alibaba (BABA), Samsung (005930), Naspers and Taiwan Semiconductor (2330), all of which are technology or internet related.
These companies now form the top holdings within the index and, more interestingly, four were the top index constituents at the start of 2017, providing a helping hand to passively managed funds.
So, have year to date returns been similarly concentrated? The marginally positive returns seen so far this year have still been led by China at the country level, closely followed by Brazil.
However, leadership within China was spread across individual banks and commodity plays as well as technology, while in Brazil the large banks and commodity stocks made the largest contributions. Looking at the emerging market index from a sector viewpoint, positive gains reflected the above, showing gains spread across financials, energy and materials.
Looking forward, managers are highlighting a broadening out of improving stock-level fundamentals, with earnings growth upgrades. This broader set of opportunities should benefit active managers, but there are stumbling blocks, particularly in terms of potentially above consensus interest rate hikes and global trade issues.
Top Performers
Top performers over the past three years include funds with a variety of different investment styles.
Hermes Global Emerging Markets focuses on identifying high quality companies that exhibit attractive growth, momentum and valuations. However, the overall portfolio will tend to show growth and quality characteristics in terms of relatively high P/E and ROIC, while debt levels are generally slightly lower.
The manager, Gary Greenberg, is an experienced investor and has been at Hermes since 2010. He prefers to run a portfolio of 50-75 holdings and has the flexibility to allocate across regions to reflect the best opportunities. ESG assessment is part of the process and the fund scores an Above Average Morningstar Sustainability Rating. The fund has often shown a bias to consumer cyclicals and more recently, technology.
Baillie Gifford Emerging Markets Growth is managed by Richard Sneller and Mike Gush. Sneller has been involved here since 2005 and is an experienced investor, who joined the GEM team in 1995. He was joined by Gush in 2015 and they form part of a ten-strong team dedicated to emerging markets. The team all have stock research responsibilities which are allocated on a country or regional basis.
A long-term growth approach is followed, with analysts seeking companies that can show sustainable earnings and cash flow growth over time. This is reflected in portfolio positioning, which tends to show a significant overweight to technology and this bias led to very strong performance in 2017.
