Turkey was an ‘accident waiting to happen’, according to Ewan Thompson, Citywire AA-rated manager of the Neptune Emerging Markets fund, but he rejects any notion that the country’s turmoil could signal the start of a rout akin to the 1997 Asian financial crisis.
...
‘You can’t extrapolate too much from Turkey; when you look across emerging markets it’s very much the exception rather than the rule. Emerging markets crises don’t tend to begin from a position of no credit growth for five years and valuations that are at a very steep discount to developed markets.’
Emerging markets on a 35% discount to developed markets. Historically, when there has been such a large difference in valuations emerging markets have outperformed developed ones by at least 50% in the five years that followed, he said.
Turkey won't plunge emerging markets into crisis
Emerging markets are in bear territory, but fears of a full-blown crisis are misplaced, says Citywire AA-rated fund manager Ewan Thompson
by Jennifer Hill on Aug 17, 2018 at 10:15
Turkey was an ‘accident waiting to happen’, according to Ewan Thompson, Citywire AA-rated manager of the Neptune Emerging Markets fund, but he rejects any notion that the country’s turmoil could signal the start of a rout akin to the 1997 Asian financial crisis.
‘It’s no surprise to us, though even I didn’t predict it would be this bad,’ he said, referring to the free fall in the Turkish lira.
For Thompson, Turkey is a ‘classic case of emerging markets folly’. It has been one of the fastest-growing economies in the world in recent years, outperforming economic giants China and India in 2017. In the second quarter of 2018, the country reported 7.2% growth in its gross domestic product (GDP).
That has been fuelled by foreign-currency debt, which stands at more than 50% of its GDP, according to estimates by the International Monetary Fund. As a result, Turkey is running deficits in both its fiscal account (when government spending exceeds revenue) and current account (when a country buys more goods and services than it sells).
However, while the country’s president, Recep Tayyip Erdogan, prefers to keep interest rates low despite inflation, which hit 16% in July, vastly outstripping the central bank’s 5% target, policymakers elsewhere in the emerging world have been quicker to act.
‘A couple of years back Russia put interest rates up 8% overnight and has been stamping out inflation since then,’ said Thompson, who has run the fund since its launch in September 2008 and has never had an allocation to Turkey.
‘You can’t extrapolate too much from Turkey; when you look across emerging markets it’s very much the exception rather than the rule. Emerging markets crises don’t tend to begin from a position of no credit growth for five years and valuations that are at a very steep discount to developed markets.’
Emerging markets on a 35% discount to developed markets. Historically, when there has been such a large difference in valuations emerging markets have outperformed developed ones by at least 50% in the five years that followed, he said.
Dealing with Trump
The £51.2 million fund’s two largest overweight positions at a country level are Russia and Brazil. It has 14.9% in Russia versus 3.5% for the MSCI Emerging Markets index and 13.8% in Brazil versus 6.4% for the index. They have been hit by uncertainty over US trade tariffs, but Thompson is optimistic that the eventual outcome will bode well for investment markets.
‘Visibility over tariffs is ridiculously low when dealing with Trump,’ he said. ‘Given that everything that has been brought to the table has already been priced in [to emerging market stock markets], there’s the potential for a surprise to the upside.’
He points to the US president and European Union (EU) officials recently stepping back from a trade war and striking a deal to work towards 'zero' tariffs, barriers and subsidies. The EU also agreed to buy billions of dollars worth of American exports, including soya beans and natural gas, and work to reform international trade rules in what Trump proclaimed a 'new phase' in US-EU relations.
Thompson did, however, reposition his exposure to Russia after the first round of tough US sanctions in April – moving out of domestic-focused industrials and into international energy stocks. He reduced exposure to state-owned Sberbank (SBER.MM), bought Lukoil (LKOH.MM) and added to natural gas producer Novatek (NVTK.MM).
Other Russian holdings include oil producer Gazprom Neft (SIBN.MM) and nickel and palladium miner Norilsk Nickel (GMKN.MM), while Brazilian stocks include railway operator Rumo (RAIL3.SA), car parts maker Iochpe (MYPK3.SA), banking group Itaú Unibanco (ITUB4.SA) and steel producer Gerdau (GGBR4.SA).
The fund is style agnostic so is not ‘growth’ or ‘value’ focused per se, but Thompson (pictured) has a good degree of flexibility to back his highest conviction ideas. ‘I don’t need to make a call on style. That said, I have an element of flexibility around that,’ he explained.
At any one time, he aims to have at least one fifth of the fund’s assets invested in each of three silos – structural growth stocks, which tend to be long-term compounders; economic recovery stocks, which are more value-oriented; and special situations, typically uncorrelated to the general market.
In late 2015, amid a tough time for emerging markets, he had the minimum in economic recovery stocks, but took this to more than 40% between February and April of 2016 as the world emerged from its deflationary slump.
Today, he has 42% in recovery-focused value stocks and 38% in growth stocks, with the remaining 18% in special situations.
His allocation to growth stocks has hurt performance in recent months as the economic cycle matures and currency crises in Turkey and Argentina undermine appetite for emerging markets. The fund lost almost 1% over the year to the end of July. However, the diversified nature of holdings has helped to shelter it from some of the falls: the MSCI Emerging Markets index is down 1.4% and this week officially entered a bear market, while the IA Global Emerging Markets sector is down 3.3% over the same timeframe. The fund’s more modest loss means it retains its place in the first quartile of its peer group.
‘We have the humility to recognise that growth has been the wrong place to be during the last quarter, but that’s why we have this diversified structure,’ he said. |
