The strategy was launched in April 2020 and became available to investors in Australia in September 2021. The strategy invests in large and mid-sized emerging markets companies which generally have a total stock market value of at least US$1 billion and that are positioned to contribute to, and benefit from sustainable development.
1 January - 31 March 2022
During the quarter we made a small number of meaningful transactions in the strategy.
After a more than 50% rally from its trough, we made the decision to exit our position in Alibaba (China). In light of the comparatively more muted growth prospects the company has going forward, a lower price-to-earnings or price-to-cash-flow multiple would seem appropriate. Our primary mistake has perhaps been in being too backwards looking in assessing quality of franchise. It is a truism, no less powerful for its simplicity, that all companies – indeed all organisations – are at any given time either strengthening or weakening relative to their competitors. The last two years have seen the company, encouraged by regulation designed to promote competition and weaken the market power of incumbents, slide into a much more competitive, capital intensive and less profitable position than it had been previously.
We recycled some of the proceeds of Alibaba into a number of Chinese companies which we deem to be either lower risk or at an earlier stage of life (and thus enjoying greater prospects), or both. These have included the likes of Estun Automation, the leading domestic robotics manufacturer, and Yifeng Pharmacy Chain, a rapidly growing drug retail chain consolidating China’s highly fragmented market. We believe these companies to be aligned with the government of China and likely to benefit from strong growth and sustainability tailwinds for the foreseeable future.
We have been experiencing an unusual time in emerging markets lately, in particular the unusual combination of broadly weak markets combined with rapidly climbing energy prices. Our strategies do not invest in oil, gas or coal, and we are always likely to underperform on a relative basis for short periods when fossil fuel markets are rallying. As ever, our focus remains on long-term absolute returns, which we believe are best achieved through avoiding investing in fossil fuel-reliant businesses.
Indeed, broad market weakness during the quarter allowed us to build up position sizes in a number of our favourite companies. These included MercadoLibre (US-listed company operating in Latin America), Techtronic Industries (Hong Kong), Godrej Consumer Products (India) and Mahindra & Mahindra (India). In each case we have high conviction in quality as well as the long-term opportunity. We remain optimistic about the prospects for attractive long-term, risk-adjusted returns in emerging markets.
1 October - 31 December 2021
In our Global Emerging Markets Leaders Sustainability strategy, we exited two positions over the quarter; both weaker franchises in economies which are less likely to be resilient in a rising interest rates environment.
These were SPAR Group, the South African grocery retailer, and Banco Bradesco, one of Brazil’s largest financial conglomerates.
Both companies had been attractive to us a year or so ago based on what appeared, at the time, quite modest valuations; both companies have dividend yields over 5%. However, in our experience it can be difficult to preserve capital in companies that are by nature dependent on their local economic environment when those economies are sailing into solid global headwinds – as South Africa and Brazil appear to be now – even when they are trading at ostensibly cheap valuations.
As often as not, in companies like these without growth tailwinds, any value creation in local currency is more than offset by currency devaluation. Therefore, in countries like South Africa and Brazil, we tend to look for companies with sufficient growth to enable them to overcome the long-term impacts of devaluation. We believe this is our best chance of deriving attractive hard currency returns in these economies.
During the quarter, we re-initiated a position in a Brazilian electrical motor company that is an archetypal example of this kind of business. A world leader in motor efficiency, the company derives most of its sales outside Brazil, which means it is naturally hedged against devaluation. It is growing rapidly as it benefits from sustainable development tailwinds around energy efficiency, electric vehicles and renewable energy generation.
We had owned the company for many years but exited in late 2020 when we felt valuations had become excessive. In US$, the share price fell 23% in the year¹, to the point where we felt a small position is again an attractive addition to the portfolio.
We also initiated a small new position in a Chinese company; a leading drug store chain. We already own several such businesses (Raia Drogasil in Brazil and Clicks in South Africa), and we note numerous similarities between these companies and our new holding in China.
Leading drug stores benefit from a virtuous cycle that tends to see them consolidate fragmented local markets over time. Superior purchasing power and logistics efficiency enables lower costs, allowing large chains to offer reduced prices to consumers. This not only drives access to medicine for people at the bottom of the pyramid, but attracts more consumers and puts the company in an ever-better position over time to continue outcompeting smaller peers.
The result can be exceptional long-term value creation, when the model is run competently and is properly stewarded by high quality people. In the case of our new Chinese holding, the combination of a private entrepreneur as owner-manager as well as a cadre of executives who have joined from multinationals, means we believe the company can contribute positively to the portfolio over time.
The Global Emerging Markets Leaders Sustainability strategy became available to investors in Australia in September 2021.
1 Source: FactSet
1 July - 30 September 2021
During the course of this quarter, we chose to exit a few of the positions in the strategy. These changes were driven primarily by our continued focus on incrementally improving the quality of the portfolio, and adding instead to companies we think have better long-term sustainable and structural tailwinds of growth for the decade ahead.
Four of the positions exited include Unilever, Kasikornbank, Samsung Electronics, and Tencent. We have slowly trimmed our longstanding holding in Unilever, and chose to exit this quarter as we have struggled to find conviction in their efforts to reinvigorate the franchise. Without this, their opportunities for growth over the next decade look to be more challenged than they have been over the previous one. We also exited our holding in Kasikornbank, which remains in our minds the best bank in Thailand. We admire the stewardship of the Lamsam family and the conservatism they have embedded in the bank post the Asian Financial Crisis. However, we worry about their limited opportunities for loan growth in the country and the rising threats from fintech disruption. We chose to exit the position and add to companies where we had more conviction.
Samsung Electronics is another company we exited through this quarter, primarily due to the cyclicality of earnings. Given our long-term approach, we are unlikely to be able to make a call on when memory chip prices reach their peak or trough, and thus chose to exit our position after Samsung delivered strong absolute returns for clients. We owned Tencent only for a brief period – unlike our typical holdings. We engaged with Tencent, shortly after we initiated a position, on issues around data privacy and government regulations. A few actions of the company, including de-platforming LGBTQ student groups, and the rising threats around government regulation led us to correct our mistake quickly, and we chose to exit the position.
We also exited our position in Avast. The company is a global leader in cybersecurity software for consumers, based out of the Czech Republic. While we believe the company has a long runway for growth, they have announced a merger with the US-based NortonLifeLock. The combined entity will be ineligible for our emerging markets funds and we have therefore had to sell out of our position.
Through this quarter, we have re-initiated a position in Foshan Haitian, the leader in soy sauce and other condiments in China. Foshan is the domestic leader in these condiments by a high margin, continues to have a long runway to evolve into other condiments, and has focused on growing through volumes rather than by increasing prices. We had previously exited our position in the company due to valuations reaching all-time highs, and had an opportunity over these past months to buy back into the company at a more attractive valuation.
We also added to many of our other Chinese holdings including Glodon, Guangzhou Kingmed, and Estun Automation, amongst others. We believe these companies continue to be well managed by their owner-managers and are the leaders in their respective industries, providing necessary products and services, setting them up well to continue growing in the coming years.
1 April - 30 June 2021
We initiated a number of new positions in the strategy during the quarter.
During the first half of 2021, there has been a continuing rotation away from quality-growth and towards value- cyclicals, as economies around the world rebound from the COVID-19 pandemic and associated lockdowns.
The broader market has been attracted to owning companies that have the best chance of rapid earnings growth in the next twelve months. In many cases, this means companies in cyclical commodity industries like shipping and mining whose earnings collapsed last year and which are most sensitive to re-opening. Whilst these companies may outperform in the short term, we believe in the long run the owners of their equity will likely realise a return more commensurate with their modest returns on invested capital.
One consequence of this rotation has been that a number of high-quality companies which were more resilient throughout 2020, but which now do not offer the same short-term upside, have become much more reasonably valued. This has been particularly true in China, the country which is most advanced in its economic recovery.
Many of the most attractive long-term companies to own in China have become significantly more affordable over the last two quarters.
For instance, we have been watching one specific Chinese plasma and vaccines company for some years. Our first meeting with the company was ten years ago, but it has been in the last few years that we built conviction up to feeling the company met our quality criteria. It has a well-stewarded balance sheet, a competent owner-manager and is the domestic leader in China in an industry we know well, having been long- term shareholders in companies like CSL in Australia.
Since February, the company’s share price has fallen by around a third as solid, defensive earnings streams have become less popular relative to those driven by re- opening and recovery. With a return on capital above 20% and medium-term growth rates at a similar level, this felt like an opportune time to initiate a position in what we believe will be a long-term winner in China.
The same pattern and fundamental logic underlies recent new positions in a China software company and two Chinese medical diagnostics companies.
In order to fund these ideas, we trimmed some existing positions. These were primarily holdings which have done very well and where a combination of resultant position size and valuation multiple has led us to take some profit, whilst retaining meaningful exposure.
One example would be EPAM Systems, a Belorussian IT services company listed in New York, which has benefited hugely from a surge in corporate spending on ‘digitalisation’. Another would be Dabur, an Indian ayurvedic consumer goods company which has seen very strong results as people increasingly spend on wellness products in the wake of the COVID-19 pandemic.
We continue to believe the companies we own in the strategy in emerging markets offer attractive long-term opportunities for capital growth.
1 January - 31 March 2022
Global Emerging Markets Leaders Sustainability
During the quarter there were 56 resolutions from eight companies to vote on. On behalf of clients, we voted against one resolution.
We voted against the approval of fees to be paid to the directors and commissioners at Bank Central Asia as we believe they are excessive. (one resolution)
1 October - 31 December 2021
As the strategy launched in September 2021, there is no proxy voting to report this quarter.
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