Global Investing

BRIC shares? At the right price

Is the price right? Many reckon that the sell off in emerging markets and growing disenchantment with the developing world’s growth story is lending fresh validity to the value-based investing model.

That’s especially so for the four BRIC economies, where shares have underperformed for years thanks either to an over-reliance on commodities, excessive valuations conferred by a perception of fast growth or simply dodgy corporate governance. Now with MSCI’s emerging equity index down 30 percent from 2007 peaks, prices are looking so beaten down that some players, even highly unlikely ones, are finding value.

Societe Generale’s perma-bear Albert Edwards is one. Okay, he still calls the bloc Bloody Ridiculous Investment Concept but he reckons that share valuations are inching into territory where some buying might just be justified. Edwards notes that it was ultra-cheap share valuations in the early 2000s that set the stage for the sector’s stellar gains over the following decade, rather than any turbo-charged economic growth rates. So if MSCI’s emerging equity index is trading around 10 times forward earnings, that’s a 30 percent discount to the developed index, the biggest in a very long time. And valuations are lower still in Russia and Brazil.

Value investing  involves buying securities at a price that is deemed to be less than their intrinsic value. What Edwards is  saying is that valuations are what matter in emerging markets, not their superior growth of their economies. So:

Despite more ongoing macro problems in EM-land a sub-10x forward PE looks reasonable in historical terms and seems very reasonable compared to QE inflated valuations of developed markets…there is much choppy water ahead for EM as China nears tilting into outright deflation and Bernanke sharpens his fangs and begins to suck the monetary blood out of the global economy and risk bubbles. Nevertheless BRICs might not now be the Bloody Ridiculous Investment Concept they once were.

Josh Lyman and fund managers’ Gordian knot

“We got momentum, baby! We got the big mo!”

Josh Lyman in the TV series ‘The West Wing’ may have wanted it in a presidential election race, but what of fund management companies? Do asset managers want investors to buy and sell their products as the momentum of fund returns ebbs and flows?

I began wondering about this when faced with comments from two well-respected figures in the funds industry. First, Marcus Brookes, Head of Multi-Manager at Cazenove Capital, so no slouch when it comes to picking funds:

“Some fund managers’ and IFAs’ approach to picking funds is usually quantitative to begin with and it is obvious most guys begin with the stuff that has just done well. It also means you are discounting three-quarters of the sector.”

South Africa may need pre-emptive rate strike

Should South Africa’s central bank — the SARB – strike first with an interest rate hike before being forced into it?  Gill Marcus and her team started their two-day policy meeting today and no doubt have been keeping an eye on happenings in Turkey, a place where a pre-emptive rate hike (instead of blowing billions of dollars in reserves) might have saved the day.

The SARB is very different from Turkey’s central bank in that it is generally less concerned about currency weakness due to the competitiveness boost a weak rand gives the domestic mining sector. This time things might be a bit different. The bank is battling not only anaemic growth but also rising inflation that may soon bust the upper end of its 3-6 percent target band thanks to a rand that has weakened 15  percent to the dollar this year.

Interest rates of 5 percent, moreover, look too low in today’s world of higher borrowing costs  – real interest rates in South Africa are already negative while 10-year yields are around 2.5 percent (1.5 percent in the United States). So any rise in inflation from here will leave the currency dangerously exposed.

Fighting the flows

Sanjeev Shah, the Fidelity fund manager who took over the UK portion of Anthony Bolton’s storied Special Situations fund, must wonder what it will take to get clients back on side.

Shah, a 17-year Fidelity veteran, can claim to have turned round a soft patch in performance, and is now consistently outdoing fellow UK equity funds. But the money keeps heading out.

The fund has suffered net outflows in 34 out of the last 35 months, according to estimates from Lipper. Total net outflows over the last three years are put at 1.1 billion pounds. The chart below makes the trend pretty clear.

Chinese inflation – unreported retail

China’s inflation print for June at 2.7 percent, a four-month high, was higher than forecast, but part of the picture could be obfuscated by a lack of accounting for the ever-growing online retail sector.

Gross domestic product figures have been consistently revised down this year from 8 percent to around 7.4 percent by July, with significant doubt over the reliability of official data. Some analysts forecast the more likely GDP print is around 5 percent, given the lack of punishment for falsifying local data and incentives for better growth figures for regional prints.

With an increasing share of shopping carried out online through websites such as Taobao, Tmall and Paipai, there is an increasing argument for online retail numbers -which had lifted one metric of inflation  closer to 7 percent in April –  to be included in the headline CPI. That metric is the retail sector’s internet shopping price index (iSPI).

Route 312 – China’s Route 66

The world’s largest car market, China, with a population of 1.3 billion people and an emerging middle class, holds great potential for investors and consumers alike with annual growth rates in the auto sector expected to hold at around 23 percent to 2017, according to Alliance Bernstein Asset Managers.

Joint ventures (JV), the most popular structure for foreign firms investing in the automobile sector in the world’s largest car market, are set to capitalise on a growing consumer base in a country with 3.3 million kilometres of asphalt. Traversing the so-called ‘mother’ road 312 (China’s route 66) is becoming more of an attainable dream for the Chinese consumer.

VW has a JV with Changchun-based FAW, Dongfeng with Nissan, GAC with Toyota and  Honda. There are many investment opportunities, though a constantly changing sectoral environment and risks of mechanical recalls can cause sharp fluctuations as in any market, according to Bernstein Research, a subsidiary of Alliance Bernstein holdings.

Politics: the unquantifiable risk that is rising in emerging markets

Political risks appear to be rising in emerging markets, but how do you measure them?

Protests in Egypt – leading to the ousting of a second president in as many years-  Turkey and Brazil have caught investors on the hop this year, causing the kind of market volatility that emerging market bulls had been saying were a thing of the past.

Political risk didn’t go away, so it turned out, it just took a breather, while at the same time spreading to countries like Portugal and Greece.

“Contrarian” Deutsche (a bit) less bearish on emerging stocks

For an investor in emerging equities the best strategy in recent years has been to take a contrarian stance, says John-Paul Smith at Deutsche Bank.

Smith, head of emerging equity strategy at Deutsche, has been bearish on emerging stocks since 2010, exactly the time when bucketloads of new cash was being committed to the asset class. Investors who heeded his advice back then would have been in the money — since end-2010 emerging equities have underperformed U.S. equities by almost 40 percent, Smith pointed out a couple of months ago.

Things have worsened since then and MSCI’s emerging equity index is down around 12 percent year-to-date, almost the level of loss that Deutsche had predicted for the whole of 2013. June outflows from emerging stock funds, according to EPFR Global last week, were the largest on record. But true to form, Smith says he is no longer totally bearish on emerging equities.  Maybe the presence or absence of those he calls “marginal international investors” — people who joined the EM party too late and are quick to take fright — is key. Many of these positions appear to have been cleaned out. Short positions or high cash balances dominate the books of dedicated players,  Smith writes:

Brazil grinds out a result

The South Americans are dominating possession. And it’s not only on the football pitch.

Net flows at Brazilian equity mutual funds have been positive for 11 out of the 12 months to end-May, according to estimates from Lipper, leading to total net inflows over the period of about $13 billion. That stands in stark contrast to the other three BRIC emerging market powerhouses.

China equity funds have waved goodbye to almost £3 billion in that time, Russia a similar amount and India $4 billion. India equity funds have seen 12 straight months of net outflows, Russia 10 out of 12 and China nine out of 12. The graphic below makes the trend clear, with Brazil the only BRIC to show net inflows to equity funds in eight of the 12 months examined. (A brief note on India: the reporting timetable of locally-domiciled funds means that these numbers are largely from funds based outside the country, which account for about half of assets)

A drop in the ocean or deluge to come?

Glass half full or half empty? For emerging markets watchers, it’s still not clear.

Last month was a record one in terms of net outflow for funds dedicated to emerging equities, Boston-based agency EPFR Global said.  Debt funds meanwhile saw a $5.5 billion exodus in the week to June 26, the highest in history .

These sound like big numbers, but in fact they are relatively small. EM equity funds tracked by EPFR  have now reversed all the bumper year-to-date inflow registered by end-May, but what of all the flows they have received in the preceding boom decade?