Fidelity Emerging Markets Fund Manager Nick Price tackles the myriad of issues and opportunities currently facing investors across the world’s developing markets. He outlines how he is navigating macro uncertainties and reveals the pockets of potential he sees across the EM complex.
Key points
- Trade tensions and the imposing of tariffs on goods will continue to drive bouts of volatility for the foreseeable future across EM.
- Although China is clearly at the centre of this, we continue to identify potential among domestically-focused areas which offer multi-year growth opportunities.
With 50% of global manufacturing and 25% of global trade driven by the US and China, the importance of the trade war cannot be dismissed in relation to EM equities. Owing to the high level of the world’s inter-connectedness, tariffs can hit both demand and supply chains across the board, with even the ‘winner’ in the war not being immune from the repercussions. However, there are opportunities to be found in the EM universe as we look ahead to 2020.
The Chinese consumer offers opportunities
Despite a challenging macro backdrop, the Chinese consumer market remains a rich hunting ground for discerning stockpickers. Whilst a deterioration in demand for some products and services will result from the trade war, companies operating in growing categories will continue to gather market share and innovate. Where there is solid structural demand and favourable industry structures, multi-year growth opportunities remain.
Notably, the fund’s exposure to China and Hong Kong is domestic-oriented with limited direct exposure to trade wars. An exception to this is represented by the power-tool manufacturer Techtronic Industries, which nevertheless continues to diversify its manufacturing activities outside of China, providing relative insulation from tariffs.
Alibaba remains a key holding and exposure has increased over the last quarter. The outlook for the stock remains extremely positive, as it continues to benefit from the structural shift to online retail and from increase in the take-rate on merchandise sales, where we see scope for considerable room for expansion when compared to global peers. Moreover, the online-retailer is also set to benefit from growing segments such as cloud and financial services.
Elsewhere, we also continue to find opportunities in China’s A-share market, albeit we have actively taken profits over the course of a number of months after the market’s strong run. As we head towards November, we also keep in mind these stocks will benefit from further inclusion in MSCI indices.
Russia and India offer rich potential
Outside of China, Russia and India are also large overweight positions and collectively these three markets account for around 50% of the portfolio. Russia continues to exhibit some of the cheapest valuations in the EM universe. The largest single position is Sberbank, but the strategy holds a diversified range of businesses operating across sectors, providing a balance between more domestic companies and exporters.
Although Russia is never without the risk of further sanctions, in an economy which is solid, but lacks significant growth, the dividend profile of the market is noteworthy, with many companies delivering attractive and sustainable shareholder returns via dividends.
Whilst India is undoubtedly slowing, it’s important to keep in mind that it still has one of the fastest growth rates in the world. Although there is clearly more work to be done to spur capital spending and reinvigorate the economy, India can still exhibit attractive growth rates driven by strong demographics and continued entrepreneurship. The announced corporate tax cuts are certainly a step in the right direction and this has recently boosted investor sentiment towards Indian equities.
At the company level, our holdings are largely domestic in nature, expressed through financials and consumer names. We recently moved to add HDFC Life Insurance and ICICI Lombard General Insurance, and it was encouraging that they have delivered strong results and performed strongly over recent months.
More generally, financials remains a key sector position across the broader portfolio with the likes of Sberbank, AIA Bank and HDFC Bank large positions. That said, the portfolio's overall exposure to the sector has come down slightly over recent months due to exiting positions in Banco Macro, ABSA Group, Discovery in South Africa and KB Financial.
However, despite these recent disposals - and falling interest rates across EM - the opportunity set in financials remains strong, supported by still high real interest rates and long-term structural growth opportunities. Unlike the developed world, many individuals across EM are at the very early stages of seeking products such as bank accounts, loans and insurance products. This gives providers access to a customer base capable of dwarfing that of which we’ve seen in the developed world.
Latin America and Saudi Arabia - proceed with caution
Like India, the reform agenda is also set to drive investor sentiment in Latin America. The Brazilian market has garnered much interest post-Bolsonaro’s election victory in 2018 as he continued pressing ahead with much needed reforms. Having suffered huge economic recession in recent years, his efforts to bring about meaningful reform have been somewhat revered by the market, although at the price of more expensive valuations. In Mexico we remain cautious, President ‘AMLO’ has revealed his populist leaning, which resulted in a rapid de-rating.
Finally, a note should be made on Saudi Arabia, which has joined the benchmark index in Q3. We have no exposure to the market - valuations appear expensive relative to Saudi companies’ ROE and dividend profiles, and also relative to other oil-rich economies, namely Russia, which offers a more attractive total shareholder return profile and whose economy can sustain a far lower oil price.
More generally, businesses that are market leaders in their respective segments and that can deliver sustainable earnings and cash flow remain the most compelling investment ideas. A continued focus on identifying good quality companies, which can deliver attractive shareholder returns over the medium to long-term will be key.
This information is for investment professionals only and should not be relied upon by private investors. Past performance is not a reliable indicator of future returns. Investors should note that the views expressed may no longer be current and may have already been acted upon. The Fidelity Emerging Markets Fund has, or is likely to have, high volatility owing to its portfolio composition or the portfolio management techniques. It can use financial derivative instruments for investment purposes, which may expose the fund to a higher degree of risk and can cause investments to experience larger than average price fluctuations. Changes in currency exchange rates may affect the value of investments in overseas markets. Investments in small and emerging markets can also be more volatile than other more developed markets. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. UKM1019/25022/SSO/NA.
