One of the main features of the investing landscape in recent years has been the extent to which growth stocks have outperformed value stocks. In emerging markets, the MSCI EM Growth index has returned - 17.8% in US dollar terms over three years, compared with -31.1% for the EM Value index.
Much of this underperformance has been justified. In particular, the very difficult environment for commodity producers has been reflected in the share prices of emerging markets oil companies and miners. The slowdown in growth in emerging markets has caused investors to pay a greater premium for companies with strong and secure growth prospects, and (as our process recognises) stocks in markets with weaker macroeconomic and political environments tend to be cheaper and have also struggled in the last three years.
Rather than sit at one of the growth or value extremes, our process looks for companies with good growth prospects but also with attractive valuations (‘growth-at-a-reasonable-price’). Nevertheless, we believe that the portfolio has some large positions that have de-rated as if they were value stocks, and we see particularly strong potential for performance from these positions.
The largest position in the portfolio is Samsung Electronics. The company trades at a significant discount to book value and has a free cash flow yield of nearly 10%. By any metric, Samsung Electronics (XKRX:005930, Financial) is a value stock, and yet from an operational viewpoint it does not resemble the state-owned banks and commodity businesses that are more typical in the value universe. Samsung has been appointed by Qualcomm (QCOM, Financial) to manufacture its new state-of-the-art Snapdragon 820 chip using Samsung’s revolutionary FinFET 3D transistors. This comes as Samsung continues to develop its own powerful Exynos system chips, foldable displays and the next generation of semiconductors. Corporate restructuring continues and, from both an operational and a financial standpoint, Samsung Electronics remains a high-conviction holding.
The second largest position we hold is in Naspers (JSE:NPN, Financial). Naspers is a broad emerging market media and internet conglomerate, with key holdings including Tencent (China, listed), mail.ru (Russia, listed), Flipkart (India) and Africa’s largest pay television business (serving ten million homes in 50 countries). Naspers has a market capitalization of US$53.5 billion and net debt of US$3.2 billion, but its stake in Tencent alone is worth US$57.4 billion, placing an implied negative value on all the remaining operations. The discount of Naspers to its listed holdings has increased markedly since November. It is also a high-conviction holding.
Thirdly, we have various exposure to the Chinese consumer. With the concerns about the direction of the Chinese economy, consumer stocks in China have de-rated significantly. However, retail sales are still growing at 11%, and an analysis of listed Chinese consumer companies shows significantly faster revenue growth. One name in the portfolio which we are particularly positive on is Alibaba (BABA, Financial). Alibaba is the dominant Chinese e-commerce company and reported year- on-year revenue growth of 32% in the last quarter of 2015, yet the stock has de-rated aggressively to 24x 2016 forecast price/earnings ratio, a very significant discount to both local peer Tencent (HKSE:00700, Financial) and global peer Amazon (AMZN, Financial). We are confident that consumer demand will continue to grow strongly in China in 2016 and feel that Alibaba’s stock is undervalued.
RISK CONSIDERATIONS- The Fund invests in international and emerging markets. International investments involve special risks, including currency fluctuation, lower liquidity, different accounting methods and economic and political systems, and higher transaction costs. These risks typically are greater in emerging markets. Such risks include new and rapidly changing political and economic structures, which may cause instability; underdeveloped securities markets; and higher likelihood of high levels of inflation, deflation or currency devaluations.
The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure the equity market performance of emerging markets. The MSCI Emerging Market Index consists of the following 23 emerging market country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Peru, Philippines, Poland, Qatar, Russia, South Africa, Taiwan, Thailand, Turkey and United Arab Emirates. Indexes mentioned are unmanaged statistical composites of stock market performance. Investing in an index is not possible. Source: MSCI. MSCI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used as a basis for other indices or any securities or financial products. This report is not approved, reviewed or produced by MSCI.
Emerging Markets involve heightened risks related to the same factors, in addition to those associated with their relatively small size and lesser liquidity.
The small and mid cap companies the Fund may invest in may be more vulnerable to adverse business or economic events than larger companies and may be more volatile; the price movements of the Fund's shares may reflect that volatility.
As of December 31, 2015 the fund had invested 8.19% in Samsung Electronics, 6.57% in Naspers, 0.34% in Tencent and 1.13% in Alibaba.
Securities mentioned above but not held in the fund as of December 31, 2015 include Qualcomm, mail.ru, Flipkart and Amazon.
The views expressed are those of the portfolio manager as of February 2016, are subject to change, and may differ from the views of other portfolio managers or the firm as a whole. These opinions are not intended to be a forecast of future events, a guarantee of future results, or investment advice.
