The Excel Emerging Markets Fund has outperformed its peer group average on a risk-adjusted basis
As emerging markets (EM) continue to define the future path of the global economy, the range of investment opportunities they offer that can generate superior risk-adjusted returns keeps on growing – with the pace of growth expected to be greater than in developed markets (DM) for years to come.
To put the phenomenal rise of EM in perspective, it is necessary to recognize that they collectively account for 70% of global GDP growth;i 35% of global market capitalization; control more than half of the world’s purchasing power; and are home to 90% of the world’s population under 30 years of age, providing them with a huge demographic dividend and a growing middle class.ii
EM also have nearly two thirds less government debt than DM; control 70% of the world’s foreign reserves; and are experiencing increasingly greater trade volumes.iii
The potential of EM is unquestionable. But, as in the DM, the risk-reward potential of opportunities in EM varies across different sectors, countries and regions. The countries within the EM universe are not homogeneous in nature. Each country is structurally different and has its own growth drivers, opportunities, and risks. As a result, divergence in performance has become the norm.
It is therefore important to recognize that regardless of market conditions, “there will almost always be good growth stories within the universe of EM through various market cycles,” says Christine Tan, Senior Portfolio Manager, Excel Investment Counsel Inc., and Portfolio Manager of the Excel Emerging Market Fund, which has outperformed its peer group over the past 1 and 3 year periods as at June 30, 2015.
Emerging Economies as Percent of the World
Tan says, finding pockets of value which have the best risk/reward characteristics is best done through active management. “Most emerging markets are no longer characterized by boom-bust scenarios, typical of the 1990’s. They have now reached a critical inflection point in terms of the size of their economies. As a result, certain secular growth themes will be dominant regardless of the trajectory of their economic growth.”
The outperformance of the Excel Emerging Markets Fund is largely due to Tan’s ability to “separate the wheat from the chaff” in EM. She focuses on identifying multi-year secular themes which have high growth potential and pricing power. Within these themes, she then identifies the best companies in each sector which have solid balance sheets and experienced management. She may periodically make tactical portfolio shifts based on changes in the macro-economic environment.
Using a disciplined, active management style that embodies “quality growth at a reasonable price,” she invests in companies that have the following characteristics:
- Intrinsic value greater than current market value
- Free cash flow
- Financial productivity, measured by return on equity, return on asset, and return on invested capital
- Scalable business model
- Superior earnings per share growth
Among the secular themes Tan favours:
- Education: parents in EM now have greater disposable income to spend on their children’s education.
- Healthcare: as EM governments become wealthier, they are spending more on a “social program” for their people. As well, the growing middle class in EM is spending more on themselves for healthcare.
- Mobility and E-Commerce: smart phone and internet use penetration is growing at a rapid rate in EM as a means of enhancing productivity and facilitating e-commerce. Mobile payments, for instance, which is still in its infancy in North America, is already widely utilized in EM.
- Environmental Protection: there is greater awareness of environmental protection in EM, facilitating a surge in industries in areas such as clean water, pollution reduction, etc.
Emerging Market Funds Annualized Return Versus Standard Deviation
- World Economic Outlook, International Monetary Fund (IMF), April 2015
- IMF Data, Euromonitor, Barings as at May 21, 2015
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