Global Emerging Markets The Strategic and Tactical Considerations for Portfolio Construction Mugunthan Siva Head of Manager Research, ING Investment Management - Multi-Strategies Group
Agenda Benchmark Deconstruction Evolution ou o Themes Access Global vs Emerging Portfolio Construction Factors Ideas for Alpha 29
MSCI Emerging Markets - Deconstruction Country Weightings - July 2009 20 18 16 14 12 10 8 6 4 Market Cap Weightingg % 2 0 China Brazil South Korea Taiwan India South Africa Russia Mexico Israel Malaysia Indonesia Turkey Chile Thailand Poland Colombia Peru Czech Republic Egypt Hungary Philippines Morocco Countries Top 10 markets account for 90% of the Benchmark and drive the beta Source: MSCI, INGIM Research
Dominated by Resources/Banks Cyclicals Cyclicals take up 65% of exposure which makes the benchmark more risky than global developed equities Benchmark risk is dominated by names like Gazprom, Vale, Petrobras, Lukoil and Sasol Materials Telecommunications Utilities C o nsumer St aples C onsumer D iscret ionary Energy Information Technology Industrials Healt hcare Financials
Key Evolution Points Strong economic growth from countries like China, India & Brazil Privatisation of China could be closer to 25% Global redistribution of wealth, population demographics Hard Assets, Competitive Advantages Top 10 Stocks 1996 Top 10 Stocks 2009 Kepco Petrobras Cathay Financial Gazprom Hua Nan Bank Vale First Financial China Mobile China Steel Samsung ICBC America Movil Changh Hwa Bank Lukoil Akbank Taiwan Semiconductors Telmex Sasol Posco Teva Pharmaceuticals Leading Sectors Banks and Financials Resources, Telco/Tech Leading Countries Korea and Taiwan Competitive Advantages Source: INGIM Research
Market Cap/Index Changes A driver of index changes in classification of a market as developed or emerging is GDP per capita Additionally the urbanisation rate will drive changes Potential 22,000 20,000 18,000 Korea Israel exclusions over the next 3-5 years 16,000 Taiwan GD DP per Cap pita 14,000 12,000 10,000 8,000 6,000 4,000 2000 2,000 Opportunities Lie Here Thailand India Source: IMF, World Bank, Pioneer Investments - China Indonesia Egypt Poland Hungary Mexico Russia South Africa Malaysia Turkey Brazil Chile 20 30 40 50 60 70 80 90 100 Urbanisation (%)
Consumer Dominant Theme Consumerism is a dominant theme in emerging markets. Yet the exposure from a listed perspective is limited. Thus depth is required to access growth provided by the Asian consumer Consumer companies make up 10% of the MSCI a small representation given expectations. Several are lower down the cap curve To access the true consumption story greater depth is required Example Chinese Government giving low-middle class income earners discounts on white and brown goods Example the growing wealth of the Indian middle class wanting to better lifestyles Themes played through global companies with revenues generated in emerging economies are diluted and with more leveraged balance sheets
MSCI EM Depth vs Local Indices One of the main issues with using purely Global Emerging Market managers to access this asset class with diversification is the depth. The MSCI Emerging Markets Index country components Country China Brazil India Russia Mexico Last Stock Position LocalIy listed stocks 35 44 48 9 14 6,757 6,450 16,639 8,170 2,065 Source: INGIM Research
Greater Inefficiencies Whilst corporate governance, market disclosure and management has improved dramatically, there are factors which create a more inefficient market Lower number of analysts both buy and sell side Greater volatility of liquidityidit Lack of transparency Key factors have been investible and drawn consistent alpha Momentum (liquidity/technical trading) Earnings Revisions (smaller number of brokers greater reliance) Earnings Growth (weak form efficient markets) Book to Price (property plays, financials)
Access via Global Managers Emerging Markets Returns within Broad and Specialist Mandates as of 12/31/2007 75 70 65 60 55 50 45 40 35 30 25 20 15 10 5 0 1Y Year 3Y Year 5Y Year EAFE ACWI ex Emerging EAFE ACWI ex Emerging EAFE ACWI ex Emerging US US US Median 35.49 35.89 40.41 32.4 36.66 36.74 36.22 37.55 39.32 Index 39.46 39.46 39.46 35.17 35.17 35.17 36.98 36.98 36.98 # of Portfolios 54 24 64 45 24 61 40 23 59 Source: Intersec Research, Schroders MSCI Emerging Markets
Low Breadth Higher Tracking Error Emerging Markets Tracking Error within Broad and Specialist Mandates as of 12/31/2007 22 20 18 16 14 12 10 8 6 4 2 1 Year 3 Year 5 Year EAFE ACWI ex Emerging EAFE ACWI ex Emerging EAFE ACWI ex Emerging US US US Median 13.76 9.68 3.75 11.21 10.01 3.5 12.09 10.75 3.75 # of Portfolios 54 24 64 45 24 61 40 23 59 Source: Intersec Research, Schroders
Portfolio Construction Factors Strategy High rate of evolution of the benchmark including index inclusions and exclusions Top Down Understanding competitive advantages across regions and industries, rather than purely assessing on country risk premiums Sector/Analyst Focus Market depth to access true growth companies Local Managers Accessing markets which are relatively attractive but are difficult to invest in e.g. China A-shares, Gulf shares ETF s, Market Neutral Extracting Inefficiencies Quant
Portfolio Considerations & Ideas Strategic Dirty Beta s Eclectic Stock Picker skills in index unaware stock selection Gulf Markets Key markets like Saudi Arabia and Kuwait. Also a hedge on oil prices and the impact of inflation on the asset class Satellite China A shares access provides a different spread of companies and is a play of Chinese retail investor liquidity. Infrastructure is a key theme which is likely to benefit from government spending to improve productivity bottlenecks Local Managers alpha dependent on the information premium which can be significant ifi
OptiMix Global Emerging Markets Fund Portfolio Configuration Core-satellite approach used to: 1. Control risk by anchoring the portfolio to less risky managers 2. Capture intended/ niche exposure through satellites Core Pioneer Bottom up stock picker with Thematic Overlay and ability to generate alpha at the country, sector and stock level. BatteryMarch Quantitative stock picker with factor models on Country, Sector and Stocks. Satellite Comgest Quality, contrarian, benchmark agnostic stock picker India Optimix India with on the ground team. China A Shares ETF Play on the growth potential of China via the A Shares market Middle East ETF Play on both growth potential and hedge against commodity induced inflation.
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