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Stephen Rudman: Good day. Today is November 1st, 2022. Welcome, and thank you for watching Ashmore's "EM in 10." I am Stephen Rudman, part of Ashmore’s New York based client-facing team. Today I will be asking Ashmore’s Head of Global Research, Gustavo Medeiros, some questions that are pertinent in emerging markets, relating to events that have taken place over the last few weeks.

Gustavo, welcome as always. Let's start with China. We just had the 20th national congress of the Chinese Communist Party conference. Obviously, there are some implications for the Chinese economy, but what might be the implications for both developed and other emerging markets? As we know, China is the largest emerging market, and the second largest economy in the world overall.

Gustavo Medeiros: Absolutely. Well thanks, Stephen, for the question, and thanks, everybody, for watching another ‘EM in 10’ video. In a nutshell, I think it's too early to tell whether the 20th Party Congress will be leading to more thoughtful economic policies from China, or not, although there were several signals pointing towards a less encouraging direction.

Of course, we had the horrid scenes of former President Hu Jintao getting taken out of the room, either after not feeling well (which is the official version), or after not seeing his proteges or his allies represented in the Politburo. It is a tradition within the leadership in China to have different factions within the Communist Chinese Party represented in the Politburo.

Several of China’s orthodox policy-makers that have been advocating for economic reforms, people like former premier Li Keqiang, and Wang Yang the former People’s Bank of China head who everyone  was speculating to be part of the Politburo, were not appointed to the Politburo, and are now out of the leadership.

And on the other hand, Li Qiang, the chief of the Communist Party of Shanghai, was appointed. Li Qiang is very close to Xi Jinping and is also very close to several important CEOs in China, including Jack Ma from Alibaba, Pony Ma from Tencent, and more recently was involved in bringing Tesla to manufacture cars in Shanghai.

Therefore, a lot of people close to ‘China Inc.’ will tell you that Li Qiang has better relationships and better engagement with the private sector than many of these other policy-makers that were hoping to sit there. Those are good academics who understand the macroeconomic imbalances, but have not necessarily been as involved as Li Qiang in getting investments directly into the country.

Historically, China has been very good at bringing thoughtful policies that were implemented on the regional level to the national level. So, there is still a possibility that we can have a rapprochement between the large CEOs of Chinese companies and the Communist Party, particularly if there’s an agreement for these CEOs to stay out of politics, which has been an issue. Furthermore, it's pretty clear to us that in the technology space, the worst of the regulatory changes are likely to be behind us. So, there are some signs that things can get better.

Importantly, we're going to be monitoring very closely whether China is going to move out of its zero-Covid strategy, in place pretty much since the beginning of the pandemic, but with the more contagious nature of Omicron and other variants leading to very strict lockdowns across different parts of the country. Over the last weekend, there were some pretty horrid scenes from within the Foxconn industrial complex – which holds some 300,000 workers – getting evacuated. People were clearly concerned about being marked as testing positive for Covid and losing their freedom in the short and medium term.

China’s zero-Covid policies have been tremendously negative to the economy, but there are a few tell-tale signs that give us hope the Chinese leadership is going to walk away from it.

The first one is that Xi Jinping himself is starting to travel abroad. A couple of months ago, he travelled to Kazakhstan for the Shanghai Cooperation Forum involving Russia and China, along with other countries including India and Pakistan. In November, Xi is also going to Bali in Indonesia for the G20 conference. Hong Kong, now fully part of China, has been opening up, and there has been a constant flow of visitors from Hong Kong to London, for example. That is very welcome, to the extent that we can get more research and more insights from the ground. But there are also significant rumours that China is starting to open up the country for foreign direct investment.

China’s general population has been upset about zero-Covid over the last 12 months or so. I think it was a very popular strategy at the beginning of the Covid crisis, and a pretty thoughtful policy if you don't know how aggressive the virus is, if you don't have vaccines for the virus, and if you want to preserve lives. But over the last 9-12 months, with variants being more contagious but less fatal, and with the population largely vaccinated, it became a much less thoughtful, a much more controversial policy, and protests have been reflective of that.

We will continue to monitor China’s zero-Covid strategy, and whether we will start to see more thoughtful economic policies being implemented, in particular, less dependency on capital expenditure (capex)-led growth and more dependency on consumption-led growth. While it’s sadly too early to say, I don't think we should be as depressed as market prices have been suggesting. At the end of the day, I think that there is more upside than downside for asset prices if China gets out of its zero-Covid strategy within the next few months, and if we do get more thoughtful policies – bearing in mind that asset prices are already pricing in a very negative outcome.

Stephen Rudman: Gustavo, thank you. Certainly, some reason for optimism, even though it has been rough from a market standpoint. The second question, and probably equally as important relative to emerging markets involves Brazil. The Brazilian runoff presidential election took place this last weekend, and it looks like Lula beat Bolsonaro. What might be the implications of a Lula victory, not just in Brazil itself – which is an important holding for many of our strategies – but also elsewhere?

Gustavo Medeiros: Yes, as we’ve been saying for months, or even quarters, now, it was a much tighter race than expected. Lula won by less than two percentage points, which makes it Brazil’s tightest presidential race since the re-democratisation in the late '80s. In fact, Lula won with a lower share of votes than Dilma Rousseff gained in her second mandate, where she started with very low popularity.

It's not unfair to say that Lula won the presidential election, but overall, the far-right political movement ‘Bolsonarismo’ won. Bolsonaro's party won the gubernatorial elections and the Congress elections, meaning it has more members in the Senate and the lower house than Lula’s. Therefore, Lula's going to have a very narrow path to govern, and he is going to have to really come to the centre when it comes to economic and social policies, which could have several implications

As we thought Bolsonaro was favourite to win for equity investors, particularly those exposed to state-owned companies. Bolsonaro had pledged to privatise Petrobras, obviously a development that could have unleashed massive appreciation of Petrobras’ asset price. We still think there is upside even with Lula, to the extent that the company is extremely undervalued, and has been paying a dividend north of 30% per year over the last 18 months or so.

I think that a more centrist Lula is actually very positive news. We have to remember that Lula's vice president is Geraldo Alckmin, whose roots were in the Social Democrats party.

Alckmin moved from the Social Democrats to the PSB party in order to become the vice president candidate, but he still has deep connections with the centre-right. Lula also received support from Simone Tebet, whose party had close to 5% of the votes in the first round of the election. She came from the centrist Democrats (in Brazil, we call them "Centrão") the party that has never held executive power, but were always in the government alliance within Congress.

So, in a nutshell, we're going to see a much more centrist administration from Lula, and therefore we shouldn't expect a huge amount of leftist-oriented economic policies. This is very good news for Brazil as the country is basically an environmental powerhouse. The vast majority of energy generation in Brazil, for example, comes from hydroelectric. The energy transition that the entire world is trying to accomplish, Brazil has already done.

Brazil also has one of the toughest environmental legislations in the world. This fact was overlooked because Bolsonaro was seen in Brazil and abroad, as anti-ESG. This introduced the possibility of increasing the deforestation of the Amazon and other forests in Brazil in order to increase farmland and to collect wood.

For the current market environment, Lula’s centrist administration has more favourable environmental policies, which are much more in line with the traditional policies Brazil always had before Bolsonaro.

Therefore, our past view that Brazilian assets were underpriced and would benefit whoever took the presidency, remains the same. The main risks here are two-fold. The first is whether Bolsonaro concedes peacefully. Already we are seeing some protests on the street against Lula, or in favour of Bolsonaro. That is not surprising, given how tight the vote was.

Bolsonaro is unlikely to try to challenge the results, and he’s very likely to lose any challenge he might try to pose. Our view is that Bolsonaro will concede, but pronounce himself as leader of the opposition as soon as he leaves government on 1 January 2023.

The second risk is centred on who will be in Lula’s economic ministry. It’s likely to be fragmented, and it’s unclear whether he will appoint technocrats like Henrique Meirelles, or more traditional Workers' Party, or the Labor Party of Brazil, economists, which have been more heterodox on controlling Brazil’s Economic team, the Ministry of Finance and Ministry of Planning. Our base case is also that Lula appoints a very pragmatic economic team, and has much more pragmatic environmental policies, alongside with the more thorough and deep social policies he has already been pledging. Balancing these higher, more social policies with economic and fiscal prudence is his main challenge, but it could be achieved with a thoughtful economic team.

Stephen Rudman: Excellent, Gustavo. It sounds like a divided government brings detente, and perhaps does not disturb economic progress in Brazil. So, that sounds great, but we shall see, as always. Gus, thank you for this "EM in 10," we appreciate the updates, and perhaps we will be doing something similar after the US mid-term elections.

With that said, till next time, thank you all for watching, and have a great day. Thank you.