Those who stayed the course with emerging markets over the last few bleak years should be feeling fairly chuffed, as more feint-hearted investors are now coming back to the asset class. Martin Currie Investment Management’s Kim Catechis says that order has been restored.
The three big questions investors have, the Edinburgh=based head of emerging markets for Martin Currie said on a trip to Australia last week, are: whether China’s growth will slow further or even collapse; when interest rates in the US are going to head north; and, whether growth generally will pick up soon. The three are interlinked.
“People’s perceptions of emerging markets have been coloured by the last two years,” he says. “This includes those who felt the volatility of the Australian dollar. Currency is a big factor.”
The MSCI emerging markets index, however, is up 10.6 per cent in the year to date, to September 30, and up 7.6 per cent for the past 12 months. The GDP growth for emerging markets is about 4.5 per cent and sustainable, Catechis says, while the developed world is about 2.5 per cent. The contrast is the way it should be. For investors, emerging markets are ‘risk on’ once again.
“In the decade up until 2008 there was ‘super normal’ economic growth. Life until then was free and easy,” he says. “Interest rates were coming down and the Chinese demand for commodities was racing along. But that’s not normal.”
He says that we all know, intuitively, that China is not going to have a hard landing because the State’s authorities have more levers to pull than the Governments in the west have. The Chinese GDP figure for the year to September, of 6.5 per cent, was what they said they would deliver.
The good news about interest rates, Catechis says, is that emerging markets tend not to get hit in any global upswing. They tend to be more immune from the impact of rising interest rates than developed markets are.
“People are looking at emerging markets again. They are coming out of a funk,” he says, “and returns are matching those of developed markets in terms of earnings. It’s evidence that the world hasn’t ended… China has not fallen out of bed.”
With the US, on the other hand, companies have never been so profitable and market valuations are very high. But American CEOs are getting their bonuses from share buy-backs. Companies got an additional boost to profitability by cutting their cost base.
“They are fit and lean, but where do they go from here?” Catechis says.
But there is no compelling evidence of much of a correlation between GDP growth and market returns. India, for instance, has had disappointing growth but relatively strong market returns in the past couple of years.
Martin Currie, which is an affiliate of Legg Mason that also oversees Legg’s Australian equities strategies – re-branded Martin Currie Australia – runs a fairly concentrated emerging markets portfolio of about 50 names. This includes a few ‘frontier’ market stocks.
Kimon Kouryialas, Melbourne-based Martin Currie’s head of Pan Asia business, says the firm is always cautious about investing in frontier markets because of concerns around liquidity and transparency. Those factors have to be satisfied first. The firm also will invest in developed market-listed companies that have a high exposure to emerging markets when it suits. It currently has three such stocks in its emerging markets portfolio: the NYSE-listed software firms EPAM and Cognizant and the Hong Kong-listed insurer AIA.
In a recent client note, Martin Currie says: “The backdrop for emerging market investors now appears to be turning and we believe the negativity surrounding the asset class has been excessive.
“Valuations are not low, but we continue to find ideas where we can build conviction for the long term. Importantly, we are not sliding down the quality scale in search of cheap-looking stocks, but remain focused on companies with proven track records and real longevity.”
* Greg Bright is publisher of Investor Strategy News (Australia)