Some earnings disappointments and continued nervousness about the impact of a trade war have taken some of the shine off emerging markets in the short term but global manager Martin Currie has cautioned investors against reacting hastily to the current conditions.
“We are starting to see some money being taken off the table,” according to Kimon Kouryialas, the firm’s head of Pan Asia Distribution, “and we expect continued volatility although earnings forecasts for our emerging markets portfolio remain strong – much higher than the consensus forecasts for emerging markets as a whole.”
Edinburgh-based specialist emerging markets portfolio managers Kim Catechis and Alastair Reynolds were visiting Australia last week with Melbourne-based Kouryialas to talk with clients and consultants.
“Over the next three months or so, there will probably be a continued process of downgrading by sell-side analysts because they must reflect the impact of changes in their ‘house view’ of economic growth,” Catechis said. “These ‘house views’ will necessarily be adjusted downwards to fathom the likely impact of the continued announcements of tariffs and counter-tariffs. If they are executed as announced, they will naturally be prejudicial to earnings growth in all markets.”
He pointed out that the consensus view for earnings growth for the MSCI emerging markets index stocks is 5.9 per cent for this financial year and 11.55 per cent for 2019. But Martin Currie’s portfolio has an expected earnings growth rate of 43.1 per cent for this financial year and 18.5 per cent for next year.
“I would counsel caution on the short-term downgrades,” Catechis said. “We will continue to focus on our highly selective approach to stock picking, driven by rigorous fundamental research.” He added that the recent reporting season held no surprises for his analysts.
The sectors most adversely affected were utilities and industrials. Martin Currie owns only one utility – China Gas – which has an ambitious growth plan. The manager is tipping 23 per cent growth in revenue in the year to March 2019 and earnings of about 20 per cent.
In a recent note to clients, Catechis said: “To showcase the breadth of opportunities available in EM, we have gone to a very different sector, to discuss EPAM. EPAM is an Eastern European based software development company that offers services to a wide range of sectors across more than 25 countries. EPAM is seeing strong demand for digital client-facing solutions from its broad customer base, including the financial services sector and the online travel sector.
“The company has experienced strong demand over many years, 30 consecutive quarters of 20 per cent or more revenue growth and we expect this to continue in 2018 and beyond. We see EPAMs margin structure being stable and therefore expect it to deliver earnings growth of 20 per cent or more. Some other attractions to EPAM are that as much as 90 per cent of its business comes from repeat customers and the clear majority is billed in US dollars, euros and British pounds.”
Alastair Reynolds describes the emerging markets asset class as increasingly sophisticated and diversified. “This is a much higher quality asset class than it used to be,” he says. For instance, the current “technology” sector makes up 27.9 per cent of the EM index compared with only 10.1 per cent in 2008. Industrials have fallen from 8.9 per cent to 5.2 per cent over the same period and consumer discretionary stocks risen from 9.6 per cent to 16.5 per cent.
Another bonus for investors may come from proposed changes to the index scheduled to start on September 28. The telecommunications sector is being broadened and renamed “communications” which include companies previously classified as “information technology” and “consumer discretionary”.
“Investors should think behind the headlines,” Catechis says. “There are still some great stories there.” Martin Currie’s portfolio is currently 48 stocks compared with about 1,100 in the MSCI EM index.
– G.B.
