Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 387

John Malloy: why time is now for emerging markets

John M Malloy, Jr is Co-Head of Emerging & Frontier Markets at RWC Partners. He joined RWC in 2015 from Everest Capital and has focused on emerging markets investing for 23 years.

 

GH: We have not published much on emerging and frontier markets this year. Can we start with definitions of what countries are included?

JM: Emerging markets are defined as developing countries in terms of their GDP per capita, their stage of economic development, their banking systems, their foreign exchange and interest rate markets. The previous expression ‘less developed nations’ has become emerging markets. For example, the Morgan Stanley (MSCI) Emerging Markets Index includes 33 countries, the largest being China through to smaller ones such as Egypt and Pakistan. It covers a broad range. We have China, Korea and Taiwan developing at a fast pace, and Taiwan has a GDP per capita that's on par with some developed countries but it is considered emerging because it doesn’t have an open capital market.

At the other extreme, we also invest in frontier markets (up to a maximum of 20% of our strategy) which are less liquid and less developed than emerging markets. In the MSCI Frontier Markets Index, the largest country is the Philippines. It also includes Vietnam, Peru, Colombia, the Ivory Coast. We own a company that we categorise as Zambian called First Quantum. It's listed in Canada but close to 100% of its assets are in Zambia and Panama.

GH: If you invest in a country like Zambia, how do you follow events there?

JM: On-the-ground due diligence is key, although that’s compromised during COVID. We continue to have close contact with our target companies. We've traveled to these places for many years. I started in emerging markets in the early 90’s and James Johnstone, who co-heads the strategy with me, has almost 25 years of experience. We also have a unique consulting arrangement with Rice, Hadley, Gates & Manuel. Condoleezza Rice, the former Secretary of State under Bush, started a consulting firm, and they speak to world leaders, they have contacts, they have very good access. Bob Gates was a former Secretary of Defence for Bush and Obama, Steve Hadley was a National Security Adviser. These contacts give us good perspectives, and our analysts also travel a lot.

GH: Why are you underweight China and Taiwan?

JM: We have shifted. We were close to a market weight earlier in the year, and both those markets have done well for us in the past. But as stock prices have appreciated, most of them have hit our price targets, and we are very disciplined, and we sell if we don't see additional upside. So, over the past two months, we've rotated capital out of China and Taiwan and into other places such as Zambia, Korea, Brazil and Russia on the expectation of a global recovery.

GH: In emerging markets, and maybe even more so for frontier markets, do you feel that you're getting a greater reward for greater risk? Or do you analyse companies in a similar way as developed market stocks?

JM: The fundamental due diligence is similar. We model the income statement, balance sheet, cash flow statement, we have a price target, we have our own internal ESG scoring system. However, where there are differences is in the macro risk. So when investing in, say, a Chinese company, there is Renminbi risk or in Brazil, the Brazilian Real risk, so you need to understand the dynamics around the currency. The other difference is that some of these markets include companies that are run or owned and controlled by the government. Is this company run for the shareholders or for other stakeholders? Additionally, you have to ensure information is good, especially accounting standards. All this requires experience and we have 20 people based in Miami, London and Singapore.

GH: Does a typical emerging markets portfolio have greater volatility for the return than in a developed markets portfolio?

JM: My view is that if you invest in these markets, you should demand higher returns. So for example, it doesn’t make sense to invest in a low volatility emerging markets strategy. Investors are not compensated for the risk. We have produced higher returns with higher volatility, compounded strongly over the nine years that we've run the strategy.

Emerging markets are cyclical, as shown in the chart below. From the late 80’s to the mid 90’s, emerging markets did phenomenally well (up 399%), and then did nothing for about a decade. Then they did well again, from early 2000’s to the GFC around 2010 (up 352%). And since then until recently, they've done nothing. So we believe there's an opportunity, especially with the dollar weakening and an enormous amount of quantitative easing, that emerging markets are set to do well.

GH: What challenges in particular has COVID thrown up in analysing emerging markets companies?

JM: Obviously, it's a global shock, and many of these governments don't have the fiscal strength to put in the types of stimulus offered by countries like Australia, the US or parts of Europe. But what they do have is the ability to put in place stringent measures and for the most part, the populations adhere to them. On the stringency tests conducted by Oxford University, which looks at things like shutting down mass transportation, closing down schools and contact tracing, many emerging markets score better than developed markets. It’s why we’re not seeing a great second wave of cases in these markets.

Asia is a good example. Taiwan is a phenomenal story, and with 24 million people, they didn't close down the economy and they've had less than a dozen fatalities. How do they do that? They obey government rules on wearing a mask, social distancing, tracing on cell phones, personal quarantining. In contrast, some developed countries have handled COVID incredibly poorly. Some emerging markets had a sharp decline, but they are experiencing a very sharp V-shaped recovery.

The second point is the demographic backdrop, including younger populations who are less obese. In the US, a large proportion of the deaths are older people and people with health problems.

GH: They are interesting points. It would be easy to assume that the countries with the best hospital systems and money to spend would manage the pandemic the best. Let’s look at ESG. How do you handle investing in countries with problematic rules of law, a lack of democratic elections, different media freedoms, etc?

JM: We focus on ESG using our internal scoring system to check governance, environment and social issues. Often, third party providers such as Sustainalytics, Morgan Stanley or Bloomberg don't fully cover the full emerging markets universe. ESG compliance is improving, much better than even five years ago. More companies openly engage about doing the right thing, including disclosure, data privacy, diversity and minority issues. Governments are also improving, such as China moving on sharemarket access and inclusion into the Global MSCI Index.

There's more focus on community, on education, on social issues, because companies recognise that there’s a real cost to having a strike or a boycott of their products or as in Bangladesh, a factory collapse.

GH: Can you describe the technology in the countries that you deal in? For example, how good is the rollout of the internet and smartphones? And how far behind or maybe ahead of developed countries are they?

JM: There are two buckets. China, Korea and Taiwan are highly advanced and they are rolling out 5G aggressively. In the US, the real 5G is located only in city hotspots but China and Korea are really rolling it out nationwide. Their 5G networks will be 50 to 100 times faster, which allows technology such as autonomous vehicle driving, drone technology, faster communications and remote operation such as a doctor operating by a robot from 1000 miles away.

Then in the second bucket, like India, Brazil and South Africa, they are leapfrogging over countries with basic technology. So they won't even build branch networks for banks because they're going directly to digital banking and digital payments via their smartphone. And these are not Apple smartphones costing $1,000. A company we own called Mediatek is selling semiconductor chipsets into these markets, and the smartphones cost $100 with the same functionality as Apple. In a place like India, if hundreds of millions can suddenly tap into e-commerce or digital payments, it changes the dynamics of the country. They are literally becoming wired overnight. It's incredibly disruptive for some companies but it's very positive for technology leaders.

GH: Can you name three companies that you're most confident about in coming years.

JM: Well, when I look at our portfolio of about 60 names, they are all really interesting. The table below shows our Top 10 holdings, so three I’ll highlight are Taiwan Semiconductor, Sberbank and First Quantum Minerals.

Source: RWC, as at 16th November. Figures may not add up to the total figure due to rounding.

First Quantum is a copper producer, and the growth of electric vehicles, clean technology and clean energy will drive copper demand. An electric vehicle uses five to six times more copper than a traditional vehicle and countries and building out their charging networks. We think First Quantum is a phenomenal company with great management, great assets and a reasonable valuation.

Taiwan Semiconductor is the largest manufacturer of semiconductor processors in the world, increasing market share to 60% versus 30% a few years ago. They're doing a great job against Intel, yet Taiwan Semi trades at only about 18 times earnings. It's also focused on ESG and renewable energy.

And Sberbank is owned and controlled by the Russian Central Bank, but it's run like a private company with a close focus on the stock price and return on equity. They paid out a 9-10% dividend yield two months ago, yet Sberbank is trading on a low valuation. They're a leader in technology and they're closing branches to reduce costs.

We think all of those stocks have strong upside supported by good management teams.

GH: The Bank of America Fund Manager Survey for November 2020 shows a rotation into EM investments. Are you seeing that trend?

JM: We're seeing a good uptick but we expect a wall of money to come into emerging markets in 2021. Ironically, most emerging markets really don't need money. Many are running positive current account balances and don’t need external sources, so the external money should also be good for their currencies. We’ve seen it in Korea and Taiwan and China so far, and we're starting to see it in Brazil and Russia.

But let me say that I'm not a big believer in the growth versus value debate. There’s no point buying a value company that faces a severe technology disruption as it could end up being worth zero. I remember when people thought paging companies were cheap but like Blockbuster, the movie video retailer, they became worthless. Companies within emerging markets can remain cheap for a long period of time because of regulatory risk, state owned enterprises (SOEs), technology disruption or ESG concerns. We are growth at a reasonable price (GARP) investors but we need to top line and bottom line growth. The starting point isn’t valuation.

GH: Many of our readers have traditional portfolios of global and Australian equities, fixed interest and maybe some property. Why should they make an allocation to emerging markets?

JM: If you look at what is happening in countries like India, Brazil, Taiwan, Korea, where they are focussed on infrastructure, opening up their markets and deregulation, it’s good timing for someone with zero exposure. We've gone through a massive bull market in the US and you could argue the valuation case from here. The valuation case in emerging markets is more compelling and we have seen the cycle before. Also, in terms of diversification, it's worthwhile thinking long term and the commodity backdrop should be constructive. There's been a lack of investment in commodities such as copper. There is an element of opportunism in emerging markets because it is a volatile sector, so investors should take a global approach with a manager with the resources to monitor all these markets and not simply a focus on say China or Korea.

 

Graham Hand is Managing Editor of Firstlinks. This article is not financial advice and is general information that does not consider the circumstances of any investor.

Access to the RWC Emerging and Frontier Markets strategy is available to Australian investors via Channel Capital, a sponsor of Firstlinks.

John M Malloy, Jr is Co-Head of Emerging & Frontier Markets, at RWC Partners, a Channel Capital partner.

For more articles and papers from Channel Capital and partners, click here.

 

RELATED ARTICLES

Asia deserves a closer look from investors

The attacking defender: position for downturns with private debt

Building portfolios: diversification without the heartburn

banner

Most viewed in recent weeks

Australian house prices close in on world record

Sydney is set to become the world’s most expensive city for housing over the next 12 months, a new report shows. Our other major cities aren’t far behind unless there are major changes to improve housing affordability.

The case for the $3 million super tax

The Government's proposed tax has copped a lot of flack though I think it's a reasonable approach to improve the long-term sustainability of superannuation and the retirement income system. Here’s why.

Tariffs are a smokescreen to Trump's real endgame

Behind market volatility and tariff threats lies a deeper strategy. Trump’s real goal isn’t trade reform but managing America's massive debts, preserving bond market confidence, and preparing for potential QE.

The super tax and the defined benefits scandal

Australia's superannuation inequities date back to poor decisions made by Parliament two decades ago. If super for the wealthy needs resetting, so too does the defined benefits schemes for our public servants.

Meg on SMSFs: Withdrawing assets ahead of the $3m super tax

The super tax has caused an almighty scuffle, but for SMSFs impacted by the proposed tax, a big question remains: what should they do now? Here are ideas for those wanting to withdraw money from their SMSF.

Getting rich vs staying rich

Strategies to get rich versus stay rich are markedly different. Here is a look at the five main ways to get rich, including through work, business, investing and luck, as well as those that preserve wealth.

Latest Updates

SMSF strategies

Meg on SMSFs: Withdrawing assets ahead of the $3m super tax

The super tax has caused an almighty scuffle, but for SMSFs impacted by the proposed tax, a big question remains: what should they do now? Here are ideas for those wanting to withdraw money from their SMSF.

Superannuation

The huge cost of super tax concessions

The current net annual cost of superannuation tax subsidies is around $40 billion, growing to more than $110 billion by 2060. These subsidies have always been bad policy, representing a waste of taxpayers' money.

Planning

How to avoid inheritance fights

Inspired by the papal conclave, this explores how families can avoid post-death drama through honest conversations, better planning, and trial runs - so there are no surprises when it really matters.

Superannuation

Super contribution splitting

Super contribution splitting allows couples to divide before-tax contributions to super between spouses, maximizing savings. It’s not for everyone, but in the right circumstances, it can be a smart strategy worth exploring.

Economy

Trump vs Powell: Who will blink first?

The US economy faces an unprecedented clash in leadership styles, but the President and Fed Chair could both take a lesson from the other. Not least because the fiscal and monetary authorities need to work together.

Gold

Credit cuts, rising risks, and the case for gold

Shares trade at steep valuations despite higher risks of a recession. Amid doubts that a 60/40 portfolio can still provide enough protection through times of market stress, gold's record shines bright.

Investment strategies

Buffett acolyte warns passive investors of mediocre future returns

While Chris Bloomstan doesn't have the track record of his hero, it's impressive nonetheless. And he's recently warned that today has uncanny resemblances to the 1990s tech bubble and US returns are likely to be disappointing.

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.