Emerging Markets Great Consumer Fund : Market Outlook

After a strong first half of the year, emerging market (EM) equities were stable in July before a sharp August sell-off followed by a rebound in September. Overall, EM equities declined 4.11% during the quarter, bringing year-to-date performance to 6.22%. Early stability was driven by expectations for a dovish bias from the July Federal Open Market Committee meeting.

Though the Fed cut rates by 25 basis points and left the door open for further cuts, the market had hoped for more certainty and sold off on the news. US President Trump followed the meeting with strong opinions on the Fed President and called for lower rates. Ultimately, the market did not appreciate signs of any sort of political intervention with the central bank. EM rallied back in September driven by optimism around a potential US-China trade resolution.

 

A combination of uncertainty around Brexit and military attacks on Saudi Arabian oil production facilities created a late quarter flight-to-quality, which strengthened the US dollar and weighed down EM’s efforts to rebound. Overall, we believe the asset class is ripe for a strong fourth quarter.

US-China relations remain key for global

market sentiment. Positive news emerged near the end of the 3rd quarter as both countries extended gestures of goodwill. Trade officials met in September and scheduled a follow-up meeting for senior officials in October followed by a meeting between state leaders in November.

China’s economic activity data for the quarter was mixed. Overall retail sales growth reached 7.8% year-over-year, slightly higher than 7.5% in August. However, retail, excluding auto sales, was 9.0%. The key outperforming sectors were food & beverages and restaurant sales, increasing approximately 10-12% year-over-year, driven by younger consumers and the emerging middle class’ new lifestyle aspirations. Demand for sportswear products was also resilient with the tailwind of government support for the sector. Exports contracted and manufacturing PMI dipped slightly. The property sector saw an uptick, with both sales and investment growth improving. Thus far, consumer sentiment and consumption demand have been relatively resilient despite trade tensions.

In India, the government made a major move to boost growth and sentiment by announcing a substantial cut in corporate tax rates. Corporate income tax rates will be reduced from 34.3% to 25.17%, effective in this current financial year. In addition, the corporate income tax rate is further reduced to 17%, for new manufacturing companies set up after October 1st, which should help attract more foreign direct investment. Equity markets have reacted positively to the announced tax cuts.

The Latin American and EEMEA (Eastern Europe, Middle East & Africa) regions, as a whole, declined in the third quarter, but Turkey, Egypt, and the United Arab Emirates (UAE) were the three best-performing countries. Turkey rallied as its trade balances benefitted from lower oil prices and lower US interest rates. 

Inflation also continues to decline, allowing the central bank to move forward with monetary easing. Egypt is also moving away from high inflation, which has allowed for dovish monetary policy and a return to growth. With regional geopolitical uncertainty, the UAE saw positive performance post-oil supply concerns in Saudi Arabia. Argentina, South Africa, and Poland were the worst-performing countries in the region during the quarter. Argentina fell following the results of presidential primaries showing little chance for the incumbent’s reelection and leading the market to fear a return to Kirchnerism/Peronism. 

Concerns on a weakening Chinese economy and softer currency drove detractions in the South African market. Aside from external concerns, South Africa’s economy continued to deteriorate as investors grew impatient for economic reform policies from the new government. Poland’s lackluster performance stemmed from weak economic figures from the Eurozone, uncertainty around Brexit, and an outlook for global lower interest rates. Overall, companies across Latin America and EEMEA remain attractive with valuation multiples below historic averages and dividend yields well above international peers.

Fund Review

Mirae Asset’s Emerging Markets Great Consumer Fund (MICGX) outperformed its benchmark, the MSCI Emerging Markets Index, for the quarter ending September 30, 2019. The Fund declined 1.53% whereas the benchmark fell 4.25%.

Key Contributors to Performance

• On a sector basis, Consumer Staples and Materials contributed the most to the Fund’s relative performance due to both allocation effects and stock selection
• With regard to geography, the top contributors to relative performance were India and China due to strong stock selection and allocation effects. However, it is instructive to keep in mind that the portfolio’s country weightings are a function of bottom-up stock selection rather than targeted allocations to particular countries.
• On the stock level, the top contributors to the Fund’s relative performance during the quarter were Asian Paints, Jiangsu Hengrui Medicine and New Oriental Education & Technology Group.

Key Detractors from Performance

• On a sector basis, the largest detractor from relative performance was Information Technology due to allocation effects.
• Relating to geography, Taiwan detracted the most from performance due to allocation effects. Stock selection in South Africa also had a negative impact.
• On the stock level, the biggest detractors were Naspers Limited, Taiwan Semiconductor Manufacturing, and Chongqing Fuling Zhacai Group.

Market Outlook

Despite a strong US dollar, a US presidential impeachment inquiry, and constant negative trade rhetoric, the continued resilience of EM equities underlines our thesis that we are in the midst of a multi-year EM bull market. The US Fed Reserve’s pivot to easier monetary policy has also led to expectations for a weaker US dollar going into the end of the year and the beginning of 2020. We also saw easing monetary policy from China, Brazil, and Russia, amongst others, which will likely continue to drive domestic growth. The combination of higher interest rate differentials translating into stronger EM currencies and accommodative local monetary policies sets the stage for strong growth in these countries, in our view.

We believe the Chinese government is prepared to roll out more measures to support small to mid-size enterprises, boost employment, improve the social safety net and promote consumption if downside risks to growth arise. The Chinese government still has many levers it can utilize to stimulate the economy, particularly given that stimulus so far has been very measured. We are of the view that further stimulus will be more calibrated than aggressive. Our base case remains that we will see a gradual growth recovery as policy support filters through the Chinese economy. We also expect China to further open its domestic industries and capital markets, and to implement more structural reforms.

While we believe that the current environment provides support for EM equities, we continue to focus on identifying high-quality companies that are best placed to benefit from sustained, secular growth in spending by an expanding emerging markets consumer base. Our investment strategy for the Emerging Markets Great Consumer Fund utilizes a bottom-up, fundamental approach to invest in companies benefiting from such enduring trends, and which possess sustainable competitive advantages including superior management, product differentiation, a dominant competitive position, pricing power, and balance sheet strength.

We believe that structural growth in the Great Consumer strategy remains intact and promising. In the third quarter of this year, the Fund remained meaningfully overweight the Consumer Discretionary and Consumer Staples sectors.