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Stephen Rudman: Good morning and good afternoon. My name is Stephen Rudman, and I'm a member of the Ashmore New York-based client-facing team. I want to welcome everybody for joining this morning. Today's webinar is titled "Fed Rate Cuts in EM Equities". Clearly poignant in timing, so hopefully we've got some topics and discussions that will be meaningful today. 

Our speakers are Dhiren Shah, Lead Portfolio Manager for the Ashmore EM All Cap Equity Fund, as well as Gustavo Medeiros, our Global Head of Research. Topics to be discussed, but not limited to, Latin America primed to benefit from lower rates, India's trajectory remaining in its own hands, idiosyncratic rate sensitivities in Asia, and slower US growth and Asia semiconductors, certainly an important part of the market and the investments that we make. We'll deal with the Q&A at the very end. I will hand it over to Dhiren and Gustavo to begin the program. 

Dhiren Shah: I'll start. Good morning, good afternoon. Before I go into Emerging Market (EM) equities, given we're talking about rate cuts, it would be great, Gus, to get your views on timing and magnitude of US Federal Reserve (Fed) rate cuts and how you're seeing it impacting EM.

Gustavo Medeiros: Sure, thank you, Dhiren. It's always great to have you with us again. So in terms of rate cuts, the easy part is timing, right? Fed Chair Jerome Powell already signalled a rate cut in September at the Jackson Hole Symposium. The magnitude question is, as he's been saying for a while, data-dependent.

With US inflation now much closer to the target, any further deterioration in the labour market will allow for deeper cuts, in our view. We've got to keep in mind here that if you look at Consumer Price Index (CPI) inflation ex-housing, we've already being running around 2%, hovering around 2%, over the last few quarters. So considering the very elevated level of real interest rates that the US has on its economy, it's reasonable to expect something close to 75 to 100 basis points until the end of 2024 with potential 50 basis points either in September or November. Again, data-dependent, right? 

So, the volatility spike we've seen in August tends to last typically for a few months. September started a bit choppy as well. The US election is yet another factor that will keep volatility elevated this month and in October. This typically tightens financial conditions at the margin, which could lead to a deeper cut, especially if we do have softer payrolls data this Friday, for example. 

Nevertheless, at the end of the day, I think what really matters is EM is very likely to benefit from lower funding costs across the world. Several EM countries have real interest rates that are far too elevated, and if the Fed starts easing policy rates, that will allow them to ease more than they would otherwise over the next couple of quarters. And lower real yields should be positive for stock market performance in a number of countries, particularly considering that the earnings yield is very, very elevated at the moment in EMs already. Furthermore, it's worthwhile remembering that most EM countries are still trading at attractive valuations, and the fundamentals have been improving since the pandemic. So, in my view, this volatility episode is likely to drive a significant reallocation of capital away from the US to the rest of the world, particularly EMs, given this picture. Now, but over to you, Dhiren, in terms of how do you see that impacting the different parts of EM? How are you looking at it? How are you playing it?

Dhiren Shah: From a high level, how we see things in terms of rate cuts, first and foremost is the change in liquidity environments. There's liquidity shifting away from the US to the rest of the world. And so that percolates into equity markets in a few ways, and the headlines are first of all, the economic growth as you mentioned. That will in time translate to earnings growth. Then you've got currencies in terms of dollar returns, and the last part is that liquidity feeding through into multiples. So those are the three positive dynamics that we see or expect to happen through a rate cut cycle. In terms of what order, that really depends. It depends on how markets are, but quite often, you'll see currencies move in anticipation of this, and then multiple drives. And then over time, as rates get cut, real rates are quite high, this changes liquidity. It changes capital, and this leads to faster economic growth and thereby leading to faster earnings growth. So that would be the narrative and this will typically play out over a few years.

Gustavo Medeiros: Absolutely, I think you've hit the nail on the head there. Obviously global growth concerns are likely to be there for the very short term, but it doesn't look like this cycle is going to have particularly strong negative growth accelerating from here. A shallower correction looks more likely. It's just again a question of volatility over the next couple of months in financial markets. But when you go to different parts of the asset class talking about volatility, LatAm has been a relatively volatile place. Why do you think Latin America is primed to benefit from lower rates?

Dhiren Shah: LatAm's interesting. I'll focus on the two markets which are the greatest relevance for us, Mexico and Brazil. Both of these countries are currently quite unique in the sense of they've got very high nominal rates and very high real rates standing out globally. So in terms of the narrative of rate cuts, this will, in general, enable these two countries to have looser monetary policy than otherwise. So they're essentially one of the biggest beneficiaries of this. 

This goes against the narrative, as you say, as year-to-date, they've both been quite notable poor performers. They had a very strong 2023, but due to their own individual reasons tied into politics and a few other things, their currency markets have been weakened, and their stock markets have also been weakened. There is an idiosyncratic reason behind each market to flesh that out a bit further.

Starting with Mexico, for context, we've tended to have a reasonable overweight to this market since the beginning of this year, mindful of how strong the currency had already been, the ‘super peso’. We can see on the horizon elections both in Mexico as well as in the US, which are potential negative events. So, we've lightened up exposure in a relevant way. Where we stand today, post-election, the market's now concerned about constitutional change from the judiciary in Mexico, which more than likely are going to happen. We've framed this as something which is obviously a negative, but in the context of the rule of law was not particularly strong in Mexico. What matters far more is economic growth, and this is something the market's temporarily missing. So we should frame this in terms of, one, nearshoring, which is going to potentially be transformational for the Mexican economy. The other part, which is equally as important, is a potentially far more pro-business, pro-growth President-elect Claudia Sheinbaum. This will offer faster growth prospects from a friendlier political cycle. For us, this potentially presents an opportunity. So as we had lightened up on Mexico, we've been dipping our toe into some of the recent sell-off. We think over the coming quarter, this could present a very interesting opportunity to add to Mexico in a more significant way, and also with the other tailwind of the Fed cuts, which we talked about. 

Brazil's another interesting one. Brazil had embarked on a rate-cutting cycle, but more recently they've stalled, and the market's been quite concerned. One, on the fiscal side, things are improving but not to the extent as desired. The second concern was in terms of President Lula appointing a non-market-friendly new central bank Governor. But over the last week, we've had a Governor appointment which is a market-friendly, which is positive. So we expect the impact of that will be rate hikes, which then sets up more relevant rate cuts to happen in 2025.

Looking at the opportunity set in both of these markets, both markets are trading near their own historical, multiple lows versus their own history. Absolute price-to-earnings (PE) multiples are very cheap. The economic backdrop is very good. So Brazil's growing at 2-3%, with a number of tailwinds behind that. With a stronger currency over time and some of these other issues going away, this potentially sets up for a very strong environment, both from a currency perspective as well as gross domestic product (GDP) growth.

Gustavo Medeiros: Absolutely. Well said. Just as a reminder, the Brazilian nominal rate for one year is slightly above 11%. Mexico’s is slightly below 11%. If you look at inflation expectations one year ahead, we're talking about 7% real interest rates. And the earnings yield of both these countries are attracting very close to double-digit levels. You should think about earnings yield in real terms, the extent that companies typically manage to at least surpass inflation. So that's a very attractive equity market that is going to look more attractive. 

Let's switch gears a little bit, and go to Asia, starting with the superstar, India. So in our previous webinars, we were a little bit concerned about valuations and leverage in the local market. We were slightly more cautious last time we spoke. Are we still keeping this cautious stance, Dhiren?

Dhiren Shah: In essence, yes, and this is guided by our framework. We're buying great franchises with growth profiles, with valuation support and valuation discipline. The qualities of the companies is unchanged. However, the growth profiles, we'll talk about in a second, have deteriorated a little, but are still very good. But valuations have become even pricier since we spoke last. So while we see a number of companies delivering, that valuation discipline part keeps us cautious in terms of allocations to India and some of the things we spoke about in the past, such as a retail frenzy in different parts of the small/mid-cap space. You can see this in a number of different ways, median PEs and so on, which makes it very difficult to own these stocks with any kind of margin of safety. So the risk/return profile for a relevant part of that market for us is unfavourable, and yes, our process just steers us towards other parts. 

With respect to Fed rate cuts and how does this impact India and so on, this is the interesting dynamic. So the Reserve Bank of India (RBI) has been tightening over the last six to nine months. And either for that or other reasons, we are starting to see weaker growth come through. If you look at auto sales, which are obviously the big macro-sensitive sector that really speaks to consumer confidence and credit availability, and so on, they've been surprisingly weak year-to-date, which gives you another picture versus the picture of the stock market going up. 

So the macro outlook is weakening, and we think this gives the RBI an opportunity in the second half of the year to actually loosen financial conditions, which might be a rate cut, or it might be in other forms to help or accommodate growth in a more reasonable way. This might be independent of the Fed, but clearly if the Fed cuts, it's obviously helpful. 

So for us, the growth environment has deteriorated a little, which means the RBI could probably cut rates in a modest amount, but we remain in our cautious stance for the reasons we've previously talked about.

Gustavo Medeiros: Excellent, thank you. And what about the other countries in Asia that have idiosyncratic rate sensitivities to a Fed cycle?

Dhiren Shah: Some of the smaller countries, very interesting, fast-growing countries, Indonesia, Philippines, have economies growing at 5% plus. And they're actually quite rate-sensitive in the sense they've got current account deficits, and so financing conditions are important. They're mindful of where policy rates are. And in many of these countries, they have been very openly talking about how monetary policy will be dictated by what the Fed does. So if the Fed cuts, these economies will be very comfortable cutting rates themselves. Those are two examples of countries where we've got a pretty constructive view. Economic growth is strong, and we see it accelerating. 

Indonesia is interesting. Obviously, we’ve had presidential elections there. The country maintains a stance of fiscal prudence a 2.5% fiscal deficit, compares very favourably to some of the numbers we see elsewhere in the world, in the US and so on. Both with the economy growing very attractively and with rate cuts and a strengthening currency, we think the environment there improves significantly. There are other parts of Asia where we remain cautious, for example in places like Thailand, with their own political cycles and so on remain less compelling for us.

Gustavo Medeiros: Excellent. Yes, very good. Definitely, it's interesting to notice Indonesia, for example. They've even done a surprising hike a couple of months ago, and the main justification for the hike was to maintain financial stability. They were really concerned about the weakening of the Japanese yen that was coming alongside with tighter financial conditions keeping the IDR on its back foot. Now, you have a double positive whammy there because as the Fed cut policy rates, that is also likely to keep the Japanese yen on a strengthening path in the medium to long term. We’ve had a lot of unwind from fast money cutting their carry trade (short JPY position), but the structural flow from institutional Japanese investors unwinding their unhedged foreign exposure positions are still likely to come, which is a factor that is important to highlight. 

Interestingly, to your comments that Brazil is likely to hike rates next, right? So, it is not one-way and there are a lot of ways we can play this theme in idiosyncratic terms. Regarding China, it's on its own side, right? Any updates on the views there?

Dhiren Shah: Yes, China's obviously a very interesting one. There's elections to come and the geopolitics around that. The macro environment has clearly slowed. And whilst policymakers there have openly said they look to stimulate the economy in many different ways, the actual policy response has been subpar in terms of aiming to hit those various growth targets. Some may argue this is related to the geopolitics, and we'll see if they do have more aggressive fiscal spend and monetary policy cuts and so on post-elections, but that's speculation. 

The one thing that I would say is there is a desire to cut rates more that's been articulated, and they have cut rates. They are very mindful of, capital outflows, and this is from the interest rate differentials between China and the US. So the Fed cutting rates definitely gives China the ability to cut their rates more. This could definitely be a positive for markets. 

The other interesting thing we see in China is in terms of what's happening at the corporate level. While the headline macro environment has been a little bit more challenging, companies continue to deliver, which is obviously very pleasing to see. First of all, in terms of revenues still growing at attractive levels. Companies are cost-cutting, so margins are expanding and dividend payout ratios are rising, and share buybacks are rising quite significantly. So we see this as providing a floor to stocks.

In terms of our framework, we're looking to buy great companies. We obviously find some of the best companies in the world in China. Companies that are still growing, trading at very attractive valuations, this is domestic-facing but also very interestingly across a range of sectors. So when you think about what China does, they've got a number of corporates leading in technology and a number of different important new industries and sectors. These companies are very much pioneers globally in what they do. But given the market dislike for China, what it means is we can buy these companies, which are going to be able to grow for 10 years with attractive growth profiles, globally industry-leading positions, making really handsome margins at very compelling multiples. There's a very interesting opportunity set out there, so we constrain our position-sizing whilst recognising there are clearly some macro headwinds.

Gustavo Medeiros: That's great. Thank you, Dhiren. I got disconnected briefly, but I can see it didn't disturb your flow. 

Just as a quick heads-up, some investors at recent roadshows have expressed an interest in having an EM ex-China vehicle. Now, this vehicle is available, just FYI. 

The next important topic is obviously the volatility in the semiconductor sector, which has increased significantly. It feels like we went through a bit of a cycle where liquidity tightening led to more volatility gradually. It started when we had the trifecta of EM elections in South Africa, India, and Mexico. Then we had the episode obviously in early August, and September again started choppy, with Japanese strength being one of the features of that as well. 

One of the fundamental backdrop elements that market participants have been using to rationalise that was the slowdown of US GDP growth. But again, it doesn't feel like we're likely to experience a very deep economic slowdown, at least for now, since consumption remains relatively strong. Is that simply a working of crowded positions, or do you think we're experiencing something more pronounced, particularly semiconductors, which is a supercyclical sector?

Dhiren Shah: Yes, I think you've hit the nail on the head in terms of that cyclicality, and so we should never forget the cyclical versus the secular. There are obviously many different themes running through the semiconductor sector, one of which you started off with in terms of positioning. How we see it within semis, there's a secular trend, which for us is, we're in the early innings of a multi-year story, which is led by, you know, GenAI, which is in the early stages of adoption. And we’ve spoke about this in the past. So that's very much secular in nature, and the other part is a cyclical part. 

We're two years into a downturn now of that cyclical part, the general PC sluggishness, servers, mobile, and so on. And that hasn't really recovered, which is interesting. So our expectation has been the cyclical part of semiconductors would be improving in the second half of this year but probably more so next year, as some of these broad GenAI products spread out into AI PCs and AI smartphones, and so on. If we did move away from a soft landing to let's say, a hard landing, and we need to consider scenarios, even though our base case is clearly for that soft-landing scenario, some of that delay would likely be pushed back. 

The other part is the secular part, and so this is GenAI, where you're seeing meaningful multi-year investments. Obviously the supply chain is located in Taiwan and Korea, and they're prime beneficiaries of this. They've got pricing power, great growth prospects, great order backlogs, and so on, and importantly, are trading at cheap multiples. So we very much see the secular growth. These companies continue to grow at very elevated growth rates, but I think you have to be mindful and sensible, as even within secular stories, you can have slowdown. 

What may happen, what could happen, is you see a moderation in growth, but these companies will still continue to grow at attractive levels, but could slow depending on what happens with the US backdrop. That's something we consider in our positioning and in terms of our potential scenarios. But for now, in terms of our positioning, the vast majority is towards the secular, whilst having some in that cyclical space where the stocks haven't really done that much because of that downturn and general expectations are quite low.

Gustavo Medeiros: That's excellent. Yes, I think the growth expectations built in a few corners of this market, are what is crucial here and what is driving quite a lot of the volatility, as you pointed out, Dhiren.

Dhiren Shah: One thing I would say is obviously the nature of EMs and the nature of stock markets in general is they're volatile. So whilst you have these secular stories where we invest in over multiple years, you get volatility, and we use that volatility to our advantage, and we’re patient. If there are significant sell-offs, we'll be adding to our positions.

Gustavo Medeiros: Well said, yes. We published a note in August when volatility spiked again. That typically is a good signal. We learned that waiting a month to add exposure paid off with higher dividends than not. So that would be any exposure at the end of September, which very much coincides with these risk that we've discussed, rate cuts and the volatility coming from the US election. We're in this window where we're likely to see the markets being choppy, but staying tuned to opportunities there. 

Now let's shift gears again. What about the Middle East?

Dhiren Shah: Sure. Just for context, what we've seen in the Middle East over the last few years has significantly different from the past of reforms, with different growth agendas, growth drivers, which were previously unprecedented in the region. 

What this presents is a lot of interesting opportunities in stocks and sectors which either weren't there before or had lower growth profiles. As an active manager, there's a lot more interesting opportunities there. But in the wider context of lower rates, and also the backdrop of potentially more moderate global growth. There are some considerations in terms of the region, clearly oil and whether there is a spillover of lower oil in terms of budgets and spend in term, and would this start lowering the growth profile within the region? There are obviously dollar pegs in the Middle East, so they won't benefit from currency depreciation. And the last part is within the index, at least, that region tends to be quite bank-heavy. So with falling rates and the peg to the US, you'll have net interest margins (NIMs) falling. Fr those reasons, we'd expect the region to underperform. However, there are some very interesting ideas within that part of the world.

Gustavo Medeiros: Excellent. Well, thank you. Now just to wrap up, we are in a choppy market environment. Fed cuts are coming on the back of that. We don't know exactly the magnitude that is going to take place yet, but the key takeaway here is that this volatility and the rate cuts are probably presenting pretty good opportunities because as we look ahead, we're going to see a number of EM central banks with the ability to reduce their real interest rates to a larger extent than if the Fed wouldn't be easing monetary policy. 

We're already seeing quite a number of interesting opportunities regardless of policy changes anyway. So ,we tend to see this period as highly attractive and as always there are quite a lot of different idiosyncratic stories that we have to bear in mind when making the asset allocation decisions. So with that, do we have any questions from the audience, Steve?

Stephen Rudman: In fact we do, Gustavo, one pertaining to Mexico: "Does a Trump Republican victory and potential tariffs perhaps impact your view on the nearshoring trade that Mexico has benefited from?" The second one is India, but I'll let you do this one first, and then I'll share the India question.

Dhiren Shah: That's one of the risks that we're mindful of and in general, the expectation is tariffs to the rest of the world. There's USMCA-exemptives. There's lots of things that we can speculate and think about. Given the proximity of Mexico, and in terms of the supply chain links and so on, in spite of all this, we would expect Mexico to benefit over time. However, there's obviously a lot of uncertainties around tariffs. So that's one of the uncertainties that we're mindful of and which we think potentially presents an opportunity, but at the end of it, we'd expect Mexico to generally be fine.

Gustavo Medeiros: Dhiren, if you don't mind, you've got to remember that we don't have NAFTA anymore. We have USMCA. This is a deal that was renegotiated by Trump, by Trump's team, Robert Lighthizer, which is likely to be back. It's unlikely that he's going to say that his deal was not good the other way around. I do think that if anything, the USMCA might be an important instrument to rein-in any potentially negative institutional developments in Mexico to the extent that it would threaten US interests. And we have the review of the USMCA in 2026. So you have these two elements. First, it's unlikely that Trump will be as aggressive as he was in 2016 against Mexican in particular. The main hit to there would be immigration, which is much less of a Mexican question. The illegal immigration that has been coming to the US has been from other places of Latin America. So, I think there is going to be noise, and that's why I keep October as a source of volatility window, but it's going to be much more noise, I think. If anything, and you could actually have upside as well coming from this relationship.

Stephen Rudman: Excellent. Thank you both. The India question, is simply, "The fiscal deficit is high, and do you foresee a deterioration of that position, particularly in the light of an absolute majority government in India as a potential key downside risk to valuations?"

Dhiren Shah: So the path of the fiscal deficit has been consolidation, and so that's just setting the scene. In general, the expectation is it will consolidate over time. The question is obviously the right question in terms of, does that trend and trajectory get weakened because you're now into coalition politics? The risk of that is clearly there because you're now in a coalition. In the early days, it seems to be okay, but come back in one year's time, two years' time, three years' time, and there's obviously bargaining, negotiating between the different parties and stakeholders, and so the cost of that could be a weaker fiscal position. Given that's one of the things that parts of the market are holding onto, that could be one of the risks to the market. So, I'd agree with that. It's a risk certainly to be mindful of, and this is something that could happen over the next few years, but obviously we've got no particular insight now beyond it's something that is more likely today than it was a year ago.

Gustavo Medeiros: Just very quickly adding again, the fiscal deficit is high. Debt to GDP is elevated in India as well, so that is a concern worth keeping an eye on. Having said that, that sustainability really hinges on growth versus the overall deficit and interest rates, right? So, to the extent that most of the budgetary efforts from the Indian government have been biased towards infrastructure investment, which has been very strongly pro-growth and much less via overall expenditure that is recurring, and it's very hard to cut, cut back, this is the right kind of fiscal deficit that you want to see, the public goods and being quite efficient actually. Just speak to anybody that has been to India recently to hear about the wonders that infrastructure has been doing in terms of overall effectiveness and productivity on logistics, etc. That hasn't changed since the first budget of the new government that we've heard. So that's an important signal, but as Dhiren said, we're going to keep on monitoring.

Stephen Rudman Excellent. Again, thank you both. There were a couple other questions, but I think you have already answered them, so I think we're good. 

I do want to say a couple of notes before signing off. One Gus, thank you for mentioning the EM ex-China strategies. Just as a note, it is both available in a US 40 Act fund format as well as CCAP. So it is available for both US investors and non-US investors. 

More specifically to US investors, as we stand at this point in the year, the EM equity all-cap portfolio and quite candidly, all of our other equity portfolios, are currently estimated to not distribute capital gains at the end of this year. So I know that's a concern as we sit here in September for US investors. Again, so that's good news, that as it looks now based on the numbers, we are estimating zero capital gain distributions. 

With that, as always, Dhiren, Gustavo, thank you. Always appreciate the time, the effort, and the insights. Additionally, for those out there, if there are any follow-up questions, please don't hesitate to reach out to your Ashmore representatives. As we head into September here, hopefully everybody's ready for a good run to the end of the year, lots of stuff going on. But we are available at your convenience, so we look forward to engaging. Again, thank you all for attending.