Patricia Perez-Coutts, senior vice-president and portfolio manager at Toronto-based AGF Investments Inc., says that investors are unjustly punishing emerging-markets stocks on concerns about the possibility of the global economy falling back into recession.
A leading emerging-markets specialist, Perez-Coutts says that while there will be a decline in the global economic growth rate and in the high rate of growth of emerging economies, "a worldwide recession is not in the cards."
Also, she says, investors are ignoring the strong performance of a large number of companies in the emerging economies. "Their second-quarter results were encouraging; the companies are generating lots of cash and staying the course."
This is creating opportunities, she says. "Many leading emerging-market stocks are trading at bargain prices."
Citing a recent Morgan Stanley study, Perez-Coutts points out that the MSCI Emerging Markets Index is currently trading at 10.4 times trailing earnings versus its five-year average of 14.2 times. The current trailing dividend yield on this index is 2.9% versus the five-year average of 2.5%.
Furthermore, she says, "with emerging-market companies you are getting far superior profitability and only paying a little more for this than for companies in mature economies."
The Morgan Stanley study shows that companies in the MSCI Emerging Markets Index have a return on equity (ROE) of 15.3% compared with the 12.1% ROE for companies in the MSCI World Index, the developed-market benchmark.
| MSCI Emerging Markets Index |
MSCI World Index |
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| YTD return | -3.4 | -0.4 | ||
| 3-year return | 3.2 | -1.2 | ||
| 5-year return | 7.6 | -1.1 | ||
| 10-year return | 11.9 | -0.3 | ||
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| All returns in C$ as of Aug. 30, 2011 Source: Morningstar |
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On relative valuation, the emerging-markets benchmark trades at 1.6 times book value on a trailing basis, versus 1.5 times book for the developed-market index.
At AGF, Perez-Coutts manages some $7 billion in emerging-market portfolios for institutional and retail investors, including the flagship AGF Emerging Markets (assets $1.8 billion).
A bottom-up GARP (growth at a reasonable price) manager, Perez-Coutts does nevertheless pay considerable attention to the macroeconomic climate of the companies she invests in. With the assistance of a team of analysts, she follows some 27 countries and screens more than 5,000 companies.
In stock selection, the focus is on cash-flow generation and profitability as measured by return on equity and by economic value added (profit earned by the company in excess of the cost of financing its capital.) The investment horizon is five years and the portfolio has a low turnover.
AGF Emerging Markets, with 77 names, has significant weightings in key countries such as China (including Hong Kong), India and South Africa. When it comes to sectors, the fund's largest weightings are in financials (which includes real-estate companies), materials (including gold stocks), consumer discretionary and energy.
There is modest Canadian content of 2.6%. Here the holdings include two Canadian gold producers that "offer a play on emerging markets." They are: Yamana Gold Inc. YRI and Eldorado Gold Corp. ELD. Yamana operates in Brazil, Argentina, Chile, Mexico and Colombia, while Eldorado operates in China, Turkey and Brazil.
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| Patricia Perez-Coutts | |
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In all, AGF Emerging Markets has some 8% in gold stocks, "which have been stellar performers in the last few months."
The largest country weighting in the portfolio is China/Hong Kong, which constitutes 17.3% of the fund. Perez-Coutts says that although China's growth in gross domestic product has slowed to 7.5% per annum, this is still "phenomenal." The country, she says, continues to enjoy real GDP growth, taking into account the inflation rate.
The Chinese government, she notes, has taken a "decisive approach" to raising interest rates and "removing excess liquidity from the economy." She welcomes this.
One of the fund's largest holdings in the region is Wharf (Holdings) Ltd., which focuses on development of and investment in real estate. Founded in 1886 and headquartered in Hong Kong, Wharf owns prime office and retail properties in Hong Kong.
Wharf is also developing residential real estate in mainland China in some 13 cities. Some 34% of its business is in the mainland, and in the medium term its target is to have that proportion reach 50%.
Two China/Hong Kong consumer-related holdings that Perez-Coutts and her team have added to are Ports Design Ltd. and Daphne International Holdings Ltd. Founded in 1961, Ports manufactures and retails fashion clothing and accessories. The company has a global reach. Daphne International manufactures footwear, apparel and accessories in China.
India, says Perez-Coutts, "continues to maintain positive growth despite inflationary pressures." The country represents 9.5% of AGF Emerging Markets.
A recent addition to the portfolio, she notes, is Mumbai-based Mahindra & Mahindra Ltd. This is a major conglomerate in India that makes automobiles, farm equipment and automotive components. Its products include commercial vehicles and passenger cars, as well as tractors. "The latter represents 35% of the company's sales; the rural areas are thriving." This company is a "strong cash-flow generator and is able to make profits in excess of its cost of capital."
South Africa is a distinct favourite of Perez-Coutts and her team. The country represents 8.9% of AGF Emerging Markets. "There are a number of well managed South African companies that are able to produce strong cash flow and offer high dividend yields," she says.
The fund's biggest South African holding is Foschini Group Ltd., a retailer of clothing, accessories and home wares, which was founded in 1924. "The company is very well run and is successfully increasing its operations in the rest of Africa."
Turning to mining, Perez-Coutts notes that South Africa is the world's leading producer of platinum. AGF Emerging Markets, she says, has a position in Impala Platinum Holdings Ltd., the world's largest producer of this precious metal. "The company is a strong cash-flow generator."
In the country's financial-services sector, Perez-Coutts has sold her holding in Standard Bank of South Africa, one of the country's largest banks. "Its corporate-loan growth was slow and its expansion in the rest of Africa was taking longer than expected."
Perez-Coutts used the proceeds to purchase Credicorp Ltd., a major financial-services holding company in Peru, which has an American Depository Receipt that trades on the New York Stock Exchange under the ticker BAP. There were concerns in investing circles, she says, about the election of a left-wing president, Ollanta Humala, and this provided an entry opportunity into Credicorp's stock. "Peru's economy is growing well."
