1. What is your investment outlook for global emerging markets in 2019?
Investment risks in 2019 are finely balanced within global emerging markets (EM). The overarching downside risk to the asset class remains that of a sustained softening of Chinese economic activity or worse, a substantial devaluation of the RMB, and a rise in Chinese funding costs leading to pressures on asset quality within the banking system and tightening liquidity conditions. The authorities are well aware of these risk factors and there are multiple ways in which they can mitigate them - the recent trade truce with the US is a step in the right direction.
On the positive side, EM equities are finishing a difficult year at relatively-attractive valuations, and while earnings estimates in EM Asia in particular are likely to see further downward revisions, expectations are being reset for a much healthier entry point than that which we experienced in December 2017.
On the balance of probabilities, my base case is for a choppy but absolute return for EM equities, but with potentially greater dispersion of returns across regions than we have witnessed in the last 3-5 years.
2. What do you think could most surprise investors next year?
Latin American and EMEA (Europe, the Middle East and Africa) equities outperformed EM Asia, on account of the underperformance of technology stocks. In many instances, we believe that technology and internet stocks are relatively expensive, with high expectations built into consensus forecasts. The leaders of the next bull market are very rarely the same as the leaders of the prior one.
On the negative side, without a reasonably timely resolution to the US-China trade dispute, I see the likelihood of a devaluation of the renminbi as being quite high. Chinese equities are already discounting a reasonable part of this, however, and so I think that investors could be surprised by positive returns in Chinese stocks, despite currency devaluation.
3. How do you plan to capture the best opportunities?
The focus remains on owning well-managed business with attractive return profiles, an accretive reinvestment opportunity and a valuation that offers an adequate margin of safety on a free-cash-flow basis.
There are numerous examples of such opportunities across EM and I have been concentrating the portfolio in the higher conviction names, as valuations have become more attractive
I view the financial sector as being one of the most interesting areas of the market, given the balance sheet quality of dominant, retail-facing banking models. These businesses look to be well-positioned to serve the pent up demand for finance and consumption across emerging markets.
The materials sector also looks to have a number of businesses offering attractive dividends and yields. Such stocks will likely deliver adequate returns in the current environment and should benefit from any effort by the Chinese government to stimulate its economy.
On the balance of probabilities, my base case is for a choppy but absolute return for EM equities, but with potentially greater dispersion of returns across regions than we have witnessed in the last 3-5 years.
