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Q&A with Ashmore’s EM Equity Portfolio Manager, Dhiren Shah

By Dhiren Shah

Dhiren Shah's Q&A session on Ashmore’s Emerging Markets Equity strategy.

*This webinar is intended for Investment Professionals only. The content is provided for informational purposes only and should not be used as the basis for any decision to purchase or redeem investments in any Ashmore fund.

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Transcript

Stephen Rudman: Welcome and thank you for joining Ashmore's Q&A with portfolio manager, Dhiren Shah, which is for investment professionals only. Very simply, today’s webinar is particularly timely with the events currently underway in Eastern Europe. As well as addressing the events in Ukraine, we would like to engage on the broader Emerging Market concerns and opportunities that we had originally planned for today’s Q&A. With that, I would like to thank Dhiren for joining and start by asking about the overnight escalation of movements by Russia into Ukraine. Dhiran, do you want to comment more broadly as to how this pertains to EM equity investing? Where there may be an opportunity, and over what kind of investment timeline? Is it better for investors to ‘sit and wait’ from your perspective?

Dhiren Shah: Thanks Stephen. First off, when we think about Russia, we think about geopolitics and the macro. As we’ve analysed it over the years, Russia has a tremendously strong macro-fiscal perspective when you consider things like its balanced budget, very low levels of borrowing and very large FX reserves. Russia also has sovereign wealth funds with cash squirreled away. So, the starting point of Russia’s macro is very, very strong, if not one of the strongest in the world. Of course, the further oil prices go up, the stronger Russia’s fiscal position becomes. This backdrop has been quite apparent over the last few years.  And it has given us a conviction to find and uncover great companies in Russia. So, from a stock perspective, there are several very compelling, very interesting companies which can grow very successfully in Russia over time.

Of course, for the year to date, the geopolitical environment has become far more complex than we had anticipated. We’ve reduced our exposure to Russia by over 50%. Today, we’ve had very significant, extreme, moves of markets. Obviously in terms of sanctions, there is currently a lack of clarity and lack of foresight into how events could unfold. So, in the near-term, this means keeping our exposure to Russia very limited. Russia’s part in the EM index is very small at around 3%, making it one of the smaller EM countries. As events unfold, and we get more insights into how the situation might develop, it may enable us to take advantage of some of the opportunities that the volatility presents.

Stephen Rudman: Let’s move away from Russia and Ukraine for the time being, and focus on what is much more important to an EM equity investor on an ongoing basis, which is China. We think of China as having underperformed significantly last year, relative to other emerging markets. Are we more constructive now on the investment case for China?

Dhiren Shah: Let’s just revisit recent history to show how our views and positioning has changed. If we dial back to the beginning of last year, China had performed very well. It emerged out of COVID very strongly. For us, as stock prices were fairly valued, that was the right environment for us to reduce our exposure quite significantly.

When you look at China over the last couple of years, it has been through generally tight monetary and fiscal policy. China has been able to grow despite this, and without having to rely on very low interest rates or excessive easing. However, towards the back half of last year, we saw an increase in regulatory risk. That led to a significant sell-off across a wide range of sectors, as well as some indiscriminate selling. We then also saw issues within the Chinese real estate sector following Evergrande. Real estate sales were down 40-50%. That really frames how our views have changed. Valuations have come down to far more attractive levels following the sell-off. And, as  macroeconomic indicators have moderated, this has also induced a change in policy. As the global economy has slowed, we’ve seen almost on a weekly basis for the last month-and-a-half policy easing coming through in China. Support has been given to different types of industries and enterprises, deposit ratios have been reduced in housing sector and low levels of interest rates, and so on. This kind of clear policy direction, which has been going against what’s been happening in the West, in terms of increasing rates and winding down policy support, it’s quite a divergent strategy.

We would like this to feed through into growth, stability and acceleration into the second half of the year.

As a result, we've added to China quite significantly over the last three months, and we are now overweight China for the first time in three years. So that should give you a sense of our conviction.

There are several investment opportunities available, but the key is to be selective. We have zero weightings in some of the larger stocks, but there are opportunities particularly from the electric vehicle value chain – where China is a global leader. There are a lot of interesting opportunities right now – from healthcare to selective parts of the technology sector – and that's now expressed through the portfolio.

Stephen Rudman: Thank you. More broadly, it’s been a bumpy start to the year. Most of that has been driven by the US and style rotation – away from tech and more in favour of value names. Has this changed the way you are thinking about the investments you are currently making? Or are you still holding true to your high conviction process?

Dhiren Shah: The interesting thing about the style rotation currently in the US, is that this impacted emerging markets significantly last year. Value outperformed growth in significant fashion in 2021. So, this is largely a continuation of that. In terms of how we manage our portfolios, for us it’s always about owning a blend of different companies. So, from higher growth to mid-growth and cyclical growth, to ensure that big style changes don’t really impact us in terms of portfolio outcomes.

In terms of investments being made currently, it’s really a function of the opportunities unfolding for us. Several EM economies are emerging out of lockdowns this year after two years of difficult growth. So, some of the financial sector stocks are particularly well-placed against that backdrop. The changes we have made really reflect stock specifics, rather than anything from a style perspective.

Stephen Rudman: Thank you. Now we have a few questions from you audience. First up: what are your views on Chinese technology? Do you think CCP are close to ending their crackdown? Is your bias in China for value or growth? You can take those as you will.

Dhiren Shah: We saw significant crackdowns relating to the internet sector in the second half of last year. And so that obviously caused a significant sell-off in internet stocks, and there are still lingering impacts that will continue to come through the market. But the implication is the need to be selective. Some stocks will feel long-lasting negative impacts, which is why some stocks are at a zero weighting. There are others where the stock corrected significantly due to short-term headlines, but the long-term business models and fundamentals are broadly unchanged. Once again, it's a case of finding the right stocks.

One of the wonderful things about the Chinese stock market is it's very, very deep. And it features a combination of amazing companies capable of growing sustainably over time. We take a balanced approach across all of these stocks, which has enabled us to generate consistent alpha in China over time. It's about doing the groundwork and having that discipline to buy them after they've sold off.

Stephen Rudman: Excellent, thank you. Obviously, oil prices are as high as they've been in many years, at around $100 per barrel. Does this have a significant impact for your portfolio? Does it change the way you look at portfolio construction? And are rising energy prices in general going to have an impact on how you approach your portfolio?

Dhiren Shah: It has an impact at the margin. Within our portfolio construction, energy is something we're naturally very mindful of, at a country level, sector and stock level. As we’ve reduced Russia, we have reallocated that capital to other parts of the world that benefit from higher energy prices. So, while energy prices remain at high levels, our view in general has been quite constructive on energy, as spare capacity gets used up and the global economy recovers, and global capex remains very depressed. So, that provides on a short-term basis an environment for energy prices to remain high.

If the country is a particularly large importer, we spend time understanding how this impacts current account deficits. For example, India, this is a country which historically is a large oil importer. Oil has had a big impact in terms of India’s current account deficit. Like a lot of other countries, India has a lot of insurance, and has built up FX reserves of about $600 billion, which they are using to manage the current scenario. The situation today is far better than the past. India has  got other sources of income, IT services, and so on, which have grown a lot more.

So, overall higher oil prices are something that we are mindful of in individual stock levels, and while we expect short term markets to be tight, over time they should normalise.

Stephen Rudman: We've received a follow up question, which is simply in terms of secondary impacts on EM because of Russia, Ukraine, and generally, how are EM currencies reacting today?

Dhiren Shah: What's happening is a global risk-off. Russia is a relevant country in EM at 3% - 4% of the index. It's not obviously one of the larger countries, but this is a global sell-off, with significant sell-offs in Europe. In a risk-off environment, you will also see currencies selling off. At present, this is moderate in terms of the history of EM currency volatility, and some currencies are moving very little. But this is very much a global issue, not just an EM one.

Stephen Rudman: Does that potentially drive short-term opportunities?

Dhiren Shah: Absolutely. We have a focus list of companies where we spend our time. These are the great companies that we want to own at some point when the price is right and when the opportunity presents itself.

Part of what we do right now is to understand the dynamics of why stocks are being sold-off. We are always analysing opportunities, particularly in terms of where we want to potentially add to holdings at attractive prices if this sell-off continues.

Stephen Rudman: Thank you. Let’s turn to inflation. With inflationary pressure tightening monetary policy, it's certainly had an impact around the globe. How do you see that relative to EM and where they are in the cycle? And what impacts may be, again, specifically for the EM equity space?

Dhiren Shah: When we think about the global inflationary pressures seen last year, and the consequent impact on tighter monetary policy coming out of the US Federal Reserve (Fed) and consequently, the significant sell-off in tech names, some parts of this doesn't impact us at all. The most speculative parts of the market are loss-making tech, which sold-off the most aggressively. This part of the market doesn’t meet our quality requirements.

Within EM, there are sectors such as technology hardware, more general hardware, semiconductors, and eCommerce. So, when we think about inflation in terms of changing the cost of capital for some of these longer duration assets, for sectors such as tech hardware it has generally very limited impacts. And some of these tech semiconductor stocks continue to perform very well. On the internet and eCommerce space, the impact of the sell-off is quite similar to what we've seen elsewhere in developed markets. So, it was very much a global phenomenon.

The biggest difference within EMs is that we don’t have quantitative easing (QE) for central banks to unwind. As inflation has increased, most EM countries have been hiking rates. This was done significantly ahead of the Fed, the Bank of England or the European Central Bank. Also, EM labour markets are different, and not as tight as in the US. So, as we go into the second half of this year, my expectation is for inflationary pressure to start to roll off in parts of EM. Consequently, the rate cycle will start to mature. I think as we go into next year, we may start to see some interest rates reductions in EM. That will obviously be a relevant tailwind, and that will present an opportunity in terms of different sectors and companies that will potentially benefit from that.

Stephen Rudman: Do you have any thoughts on Alibaba?

Dhiren Shah: Alibaba is a stock that we do not currently own. We exited very successfully earlier last year. We are not driven by the benchmark weights, but where we think the best opportunities are. Growth rates have slowed in the eCommerce ecosystem, and the competitive environment has changed quite significantly. However, we think competitors will gain more from that than the likes of Alibaba. We think the future for Alibaba is much more moderate growth going forward.

Stephen Rudman: How much does environmental, social and governance (ESG) considerations help inform you and your team, not just in terms of risk mitigation and avoiding potentially bad investments, but also to generate alpha?

Dhiren Shah: ESG has worked hand-in-hand with our investment approach for many years. We are quality investors, so ESG is a very important factor in determining the quality of a company. Above and beyond that, ESG enhances the risk-adjusted returns we can generate. We spend a lot of time going through the 18 core values of what we're looking for, which is done by the individual analyst on the team. The benefit of this rigorous approach is that it helps us to understand a company much better, in terms of financial forecasts, modelling revenues, margins, capex, and so on.

Part of the analysis is about making things better. We are long-term shareholders, and part of that means shareholder engagement. We communicate what we would like companies to be doing. This all ultimately impacts how we view the quality of the company, and that then impacts position sizes. We penalise companies where there are high risks, and the worst offenders simply do not make it into the portfolio.

Stephen Rudman: Excellent, I think that's very helpful. One last question: where do you see opportunities at present?

Dhiren Shah: In terms of opportunity, I would look to current valuations. When you think about EM versus the S&P, the valuation multiple is around 0.5 times. This is close to historic lows and typically there tends to be a strong bounce-back around this point.

When we think about what's going on in global markets in terms of winding down QE, there’s a more supportive monetary backdrop in EM. This says to us that this is a constructive environment, and that global growth remains strong. And when we look at our portfolios and the companies we own, we see a pretty robust environment for profit growth over the coming year. So, selective opportunities are there. We don’t see this as a cycle like in the 2000s, when a rising tide lifted all boats. Some EM countries have got their fiscal accounts back to pre-COVID levels, while others haven’t. There’s a need to be selective at the country level as well as the company level. So, the opportunities are many, and it’s about finding them and having the discipline and skill to get back to the right levels with the volatility that’s presented.

Stephen Rudman: Dhiren, thank you for your time today. And thank you for all that have attended. We appreciate your time, particularly on a very busy day.

Dhiren Shah: Thank you.

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