Put your money where ro­bust long-term growth is

The Tem­ple­ton Emerg­ing Mar­kets Fund’s man­agers in­vest with a long-term view in emerg­ing mar­ket com­pa­nies they believe are un­der­val­ued rel­a­tive to the sus­tain­abil­ity of their earn­ings.

Finweek English Edition - - Fundfocus - By Leon Kok

the case for South Africans ex­pos­ing them­selves to a lead­ing dol­lar­de­nom­i­nated emerg­ing mar­kets (EM) fund is a no-brainer. EM’s role in driv­ing global growth should not be un­der­es­ti­mated, either in­clud­ing or ex­clud­ing China. EM ex-China ac­counted for 32% of 2017 real global growth in US-dol­lar terms, while China alone amounted to an ad­di­tional 27%. By com­par­i­son the US con­tri­bu­tion was 16%.

Launched in Fe­bru­ary 1991, the US-dol­lar de­nom­i­nated $965m Tem­ple­ton Emerg­ing Mar­kets Fund has re­turned a cu­mu­la­tive 279% in US dol­lars since then, and 31% over the last three years.

This fund is man­aged by Chetan Sehgal, se­nior man­ag­ing di­rec­tor and di­rec­tor of port­fo­lio man­age­ment, Franklin Tem­ple­ton Emerg­ing Mar­kets Eq­uity, and over­seen by Man­raj Sekhon, chief in­vest­ment of­fi­cer of Franklin Tem­ple­ton EM Eq­uity. While the team’s phi­los­o­phy is value-ori­ented, the in­vest­ment style is core, in­volv­ing buy­ing shares of com­pa­nies with sus­tain­able earn­ings power that trade at a dis­count to in­trin­sic value. The team gen­er­ally aims to gen­er­ate re­turns com­men­su­rate with the dou­ble-digit earn­ings growth typ­i­cally seen in emerg­ing mar­kets, and al­pha of 2% to 3% per an­num over a rolling three-year pe­riod.

An im­por­tant fea­ture of the Tem­ple­ton EM Fund is its global spread and broad di­ver­si­fi­ca­tion. From a geo­graphic per­spec­tive it is linked to the MSCI EM In­dex with its main com­po­nents com­pris­ing China 24% of the to­tal (com­pared with MSCI In­dex’s 31%), South Korea 18% (14%), Tai­wan 11% (12%), SA 8% (7%), Rus­sia 7% (4%), In­dia 7% (9%), Brazil 6% (6%) and Thai­land 3% (2%).

The largest sec­tors cur­rently are in­for­ma­tion tech­nol­ogy at 33% (27%), fi­nan­cials 22% (23%), con­sumer dis­cre­tionary 20% (9%), en­ergy 7% (7%), and con­sumer staples at 6% (7%).

The pri­mary themes within the port­fo­lio are con­cerned with the growth of tech­nol­ogy and innovation, as well as ris­ing con­sumer pen­e­tra­tion and ‘pre­mi­u­mi­sa­tion’ of con­sumer de­mand (not just buy­ing cars, but buy­ing BMWs, for ex­am­ple). These sec­tors and com­pa­nies of­fer di­ver­si­fi­ca­tion to South African in­vestors given the dom­i­nance of fi­nan­cials and ma­te­ri­als in the do­mes­tic econ­omy.

While coun­try and sec­tor bets are lim­ited, the fund re­lies on stock se­lec­tion to gen­er­ate re­turns – hence here the dif­fer­ences with the in­dex are more ev­i­dent, with a large num­ber of non-in­dex ex­po­sures. The five big­gest hold­ings are Samsung Elec­tron­ics 8%, Naspers* 7%, Tai­wan Semi­con­duc­tor Man­u­fac­tur­ing 6%, Alibaba

4.6% and Bril­liance China Au­to­mo­tive Hold­ings 3.5%.

Sehgal con­cedes that EMs suf­fered a set­back in the first half of this year and that the im­pact of trade con­cerns, a strength­en­ing US dol­lar and high volatil­ity in mar­kets such as Ar­gentina and Tur­key has been more pro­found than ex­pected, but they dis­count the pos­si­bil­ity of a whole­sale de­rail­ment in EM fun­da­men­tals.

The sharp mar­ket gy­ra­tions (mainly down­wards) in EM eq­ui­ties and cur­ren­cies, in their view, have gen­er­ally priced in sce­nar­ios worse than is likely to be the case.

If you look at EMs in gen­eral, most are in good shape with good earn­ings growth and bet­ter growth prospects than de­vel­oped mar­kets in the years ahead, they say.

More­over, most EM cur­ren­cies have float­ing for­eign ex­change regimes and as a group run a cur­rent ac­count sur­plus. The ef­fect fur­ther­more of the strong US dol­lar will dif­fer from coun­try to coun­try, de­pend­ing on each na­tion’s eco­nomic struc­ture and poli­cies.

Nor does Sehgal main­tain that a slight slow­down in China will bring down­side risks for other EM mar­kets. On the con­trary, he

This year’s slide in EM stocks has made them rel­a­tively cheap.

ar­gues, the qual­ity of growth should con­tinue to im­prove as the gov­ern­ment takes up ef­forts to re­duce fi­nan­cial sta­bil­ity risks and re­bal­ance the econ­omy. China’s ef­forts to re­bal­ance by way of slow­ing in­vest­ment growth are a pos­i­tive de­vel­op­ment for the rest of the world. Nat­u­rally, of course, there will al­ways be risks too. The value of an EM port­fo­lio and re­sul­tant yields can es­pe­cially fall or in­crease due to changes in mar­kets. This can re­sult in the unit value fall­ing be­low the amount you orig­i­nally in­vested and ob­struct you from reach­ing your in­vest­ment goals.

So why con­sider this fund? Franklin Tem­ple­ton has been a pi­o­neer in EM in­vest­ment. It in­tro­duced the in­dus­try’s first closed-end fund ded­i­cated solely to EMs in 1987.

The group keeps an ac­tive pres­ence in lo­cal mar­kets with a team of over 70 ded­i­cated port­fo­lio man­agers and an­a­lysts lo­cated across 18 of­fices around the world, main­tain­ing a first-hand un­der­stand­ing of the eco­nomic trends of their re­spec­tive re­gions.

The fund man­agers in­vest with a long-term view in EM com­pa­nies it be­lieves are un­der­val­ued rel­a­tive to the sus­tain­abil­ity of their earn­ings, fun­da­men­tally strong, grow­ing, and ca­pa­ble of weath­er­ing dif­fi­cult times.

This year’s slide in EM stocks has made them rel­a­tively cheap judged by the MSCI EM In­dex on around 11.2 times this year’s earn­ings, down from 13.3 times ear­lier this year and now hov­er­ing at their low­est in more than two years. The dis­count com­pared to de­vel­oped mar­kets (MSCI World) has widened con­sid­er­ably.

EMs have con­sis­tently proven their re­turn po­ten­tial and there is lit­tle rea­son to believe that this will not con­tinue in the longer term. ■ *fin­week is a pub­li­ca­tion of Me­dia24, a sub­sidiary of Naspers. Se­nior man­ag­ing di­rec­tor and di­rec­tor of port­fo­lio man­age­ment at Franklin Tem­ple­ton Emerg­ing Mar­kets Eq­uity

Chetan Sehgal

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