Emerging markets (EM) had a volatile 2018, marked by a 17% contraction in the MSCI EM Index and a 24% decline from the January peak.1
There are three key contemporary controversies that underlie the weakness in a global context:
- China’s growth deceleration
- The broad-based strength of the U.S. dollar
- Perceived structural fragilities in EM
Below, we endeavor to explain why these controversies have either run their course or have been misunderstood by the market. We will also examine the real options that exist in the asset class, and articulate the pivotal reasons why we believe the stage is set for a recovery in EM equities. In summary, we believe that:
- Structural reforms have the ability to fuel domestic investment and growth potential across a number of large EM economies
- China’s challenges are manageable and its opportunities greatly underestimated
- Many extraordinary companies are currently trading at highly attractive valuations
What Has Investors Worried?
1. China’s transitional challenges and slower growth weigh heavily on global equities.
With the Shanghai and Shenzhen indices down 29% and 36%, respectively, in 2018, challenges in China are the top concern on investors’ minds.2 While concerns about China’s growth meaningfully impacted EM sentiment last year – and volatility will likely persist for some time – we believe this issue is largely misunderstood. China’s economy is going through a period of big structural transformation, coming off an extended period of extremely rapid growth, and is moving onto a more sustainable development track.
Two key factors are responsible for China’s growth over the past three decades: export-led growth that drove massive gains at the beginning of the century and significant investment in the domestic property market, which fed off significant gains in real estate values. Both of these traditional growth drivers have faded drastically in the last five years.
Just a decade ago, China was running a nearly 10% current account surplus relative to GDP, a number that is now closer to 1%. Boasting an approximate one-fifth share of worldwide manufactured exports, China’s potential in that arena is essentially saturated, and its exporting prowess, which had long fueled supernormal growth, has largely gone away. With semi-skilled migrant wages at about U.S. $500 per month,3 the country is no longer competitive in low-end manufacturing jobs compared to places like Bangladesh and Vietnam. Instead, China is slowly gaining ground in higher value-added industries. Thus, trade has essentially become a growth detractor.
The real estate sector was the second key driver of China’s growth. High levels of domestic savings, coupled with a closed capital account and limited domestic financial investment options, sponsored a massive real estate boom. China’s property market, which has been the quickest path to wealth creation over the past two decades, is finally slowing down, after almost two years of government measures to quell speculation-driven price increases. Overall sales by floor area dropped 27% year-over-year during China’s Golden Week holiday in October.4 Amid a cooling property sector, property investment growth has also been weakening and developers have left a trail of failed land auctions – something that hitherto was almost unheard of.
There has been a notable build-up of leverage in the financial system over the last decade. Debt has increased spectacularly as China’s government has responded to weak external demand post 2007-2008 with consistent doses of credit to sustain growth. The government’s recent push to control risks from this excess debt has resulted in credit growth decelerating over the past 18 months. Most recently, there has been a deliberate curbing of shadow banking activities, with net new lending from this segment plummeting from 12% of total system credit in 2016-2017 to -9% in the first half of 2018. Typically, credit growth is a one- to two-year leading indicator for GDP, and we are already seeing the effects. The country’s ongoing deleveraging is simply incompatible with the levels of brisk growth to which investors have become accustomed.
Still, the high debt stock in China is not particularly worrying to us. Our confidence lies in two distinct characteristics of the Chinese economy: China’s excess savings and its fiscal capacity. The country’s stock of financial savings is unprecedented at over 400% of GDP at the end of 2015.5 Further, China has a particularly healthy public balance sheet with low levels of fiscal debt (contrary to the massive fiscal expansion in the U.S. witnessed over the last decade). These factors give the government an ample amount of capacity to recapitalize the banks and crack down on state-owned enterprise debt, while also providing stimuli in a surgical fashion, for example, through lower reserve requirements and consumption-boosting tax cuts.
2. U.S. dollar strength and rising rates hit EM currencies and spreads.
The normalization of U.S. monetary policy through rate hikes and the concurrent significant strength in the U.S. dollar have resulted in both increased volatility and weakness in EM equities. The U.S. Dollar Index DXY, which measures the strength of the U.S. dollar against a basket of currencies, has risen 20% over the past five years, and combined with rising interest rates, has resulted in money flooding out of emerging markets. And it must be remembered that, as the dollar rises, so does the local currency cost of servicing dollar-denominated debt, as has been painfully evident in places like Argentina and Turkey, both of which have experienced market meltdowns.
Fundamentally, this is not an EM equity phenomenon, but a worldwide strong dollar phenomenon. Alongside USD rate increases, we have witnessed a marked increase in bond spreads. For example, the average spread of EM sovereign bonds to U.S. Treasuries rose to over 415 basis points (bps) in January 2019 from about 280 bps at the beginning of last year.6 Likewise, the spread of global bonds, as illustrated by the JPMorgan Global Aggregate Bond Index, increased by approximately 60 bps last year.7However, looking at the next 12 months, the likelihood of continued dollar strength is extraordinarily low, in our opinion. First, the relatively expensive U.S. stock market is already signaling an end of a much-extended bull market. This has profound implications for EM equities, which have lagged the S&P 500 on a cumulative basis by approximately 42% in USD terms over the past five years.8
Second, U.S. growth will face significant resistance as fiscal stimulus evaporates and the current account deficit expands. There are already signs that high interest rates are restraining activity, notably in discretionary spending and housing.
Third, there is growing fiscal stress after the massive increase in the U.S. federal deficit over the past 10 years, compounded by unnecessary fiscal stimulus in 2018. Indeed, U.S. growth was effectively front-loaded thanks to tax cuts and the resulting repatriation of large corporate profits.
Last but not least, it is likely that the Fed will have to respond to the above with a much more dovish monetary policy than is currently anticipated. This essentially provides the context for the potential resurgence of EM equities.
3. Emerging market economic vulnerabilities are significantly overstated.
Alongside concerns about China growth and USD strength, structural issues in emerging markets have made investors excessively bearish. However, we believe these vulnerabilities are overstated. Contrary to conventional wisdom, there has been no significant increase in leverage in EM outside of China in a decade.
The "Fragile Five" was a term coined in 2013 to represent EM economies that were overly dependent on unstable foreign portfolio investment to support growth. But these economies (Brazil, India, Indonesia, South Africa, and Turkey) have changed dramatically from the days of the EM cyclical downturn in 2014-2016. Improvements in external balances have broadly taken place across EM. Turkey is one of the most interesting circumstances in that respect – within the past couple of quarters it has essentially eliminated one of the biggest current account deficits in the world, with sharply higher rates and a willingness to retreat into recession to repair its external balance.
Current account imbalances across EM countries have narrowed overall since the dark days of 2014-2016. Further, EM inflation is largely remote and rates have already adjusted. The real problem in the emerging world is not about external vulnerability, but rather about growth, which essentially ties back broadly to the low savings phenomenon across much of the EM world outside of China.
In Times of Stress, Big Opportunities Arise
In the following section, we further explore four key reasons why we believe the current environment is an opportune one for EM investors.
1. Structural reform is coming to an emerging market near you.
First, we expect material structural reform across the developing world, particularly in places like Brazil, India, Turkey, and Mexico. This involves improving the supply side of growth through policy changes. Having spent time in Brazil and Turkey recently, we see clear evidence of a willingness in government and society to undertake material hard decisions to improve growth potential structurally. Structural reform can lead to improvements in savings capacity, which will in turn fuel domestic investment and growth.
Take Brazil as an example. Enthusiasm for newly elected President Bolsonaro is evidenced by the recovery in the Brazilian real and equity markets. The opportunity for reform to address the economy’s two fundamental problems is percolating. The first concern is insufficient domestic savings – Brazil does not have enough domestic savings to support growth. Second, structurally unsound fiscal balances – a large part of that low savings is not being put into productive capital stock, but rather, is funding huge fiscal deficits. Re-channeling those savings into productive assets can have a profound effect. There is a big opportunity for Brazil to open up its economy, akin to Mexico with NAFTA. This would pave the way for potentially spectacular foreign direct investment-led growth. And while this would damage protected domestic industries, it is a necessary step as the whole country would benefit.
Similarly, India is another country counting on cumulative reforms to increase its growth potential. Measures such as a goods and services tax (GST); establishment of bankruptcy laws; and recapitalization and cyclical repair of bank balance sheets have already occurred, sowing the seeds for future growth. As India shifts large swaths of the economy into the organized sector, productivity and savings gains can amplify growth potential. India has a pronounced dual economy, with a relatively small but highly productive formal sector complimented by a huge, but insufficiently productive, unorganized sector in agriculture and domestic services. Successful labor reform would pave the way for India to take all those China-plus jobs that have found their way to places like Indonesia, Vietnam, or Bangladesh.
The scale and impact of China’s ongoing structural reform is unparalleled. Committed to its transition to a consumption- and services-driven growth model, China had entered a new era of economic development. Its export economy, which was all about “stack ‘em high, sell ‘em cheap” manufactured goods, hasn’t been a growth driver for 10 years. The growth in the economy is slowing because those historical drivers are fading. That said, the consumer is taking up the baton and leading a very different growth circumstance: potentially slower, but of much higher quality. This trend is likely to bring exciting opportunities for investors as real options emerge from sectors outside of traditional banks, building materials, and real estate sectors. Sectors and companies with sustainable, differentiated advantages and real options will stand out, including those in the technology and bio-tech fields.
2. China will be fine.
Against the backdrop of domestic economic challenges and ongoing trade conflicts, China’s circumstances are largely manageable. Looking forward, any stimulus will proceed in dribs and drabs in China, but the credit taps are unlikely to be opened wide like they were in past periods of slowdown because that would run counter to the country’s need to rebalance the economy and clean up the financial sector. Instead, China might implement reforms focused on redistribution of wealth and resources within the economy, targeting the hundreds of millions of people living in urban areas who do not yet have access to adequate healthcare and education.
Even at a slower 5% pace over the long term, China will still account for 30%-40% of global GDP growth, making it the single largest growth engine in the world. However, future drivers in China are going to be quite different from those of the last 30 years. As mentioned, China has transitioned from an export-oriented growth economy to a domestic demand-driven economy. In addition, where the state-owned enterprises had been a big factor behind growth and employment historically, innovative private sector companies now lead the way.
3. Big disruptive investment opportunities are emerging in the China/EM world.
The lack of physical infrastructure development in the developing world has led to leapfrog effects with the digital world in areas like ride-hailing, e-commerce, and financial services – similar to what we witnessed in mobile telephony years ago. In the past decade or so, EM overall have become an incubator for companies focused on these incredibly powerful themes. The impact has been felt most in China, which has emerged as a hotbed of global innovation with Hangzhou, Shenzhen, and Beijing beginning to rival Silicon Valley and Boston in future industries. Consider that in 2017, China created one-third of new unicorns globally, and 7 of the top 10 in terms of valuation, including Meituan Dianping, Didi, and Ant Financial. These companies will continue to grow in importance, and many will generate outsized returns for opportunistic investors. And China boasts an enormous amount of human talent, enabling Chinese companies to develop new areas like artificial intelligence and machine learning at a faster pace than anywhere else in the world.
The bottom line is that, while China’s growth rate will slip during this transition, the quality of that growth is improving as it invests in new disruptive industries.
4. EM valuations are attractive
We believe EM valuations are broadly attractive, with the MSCI EM 12-month forward having recently fallen below its 10-year average. However, it is the opportunities in high-quality companies that matter most to us. A combination of relatively inexpensive currencies and approachable stock valuations have made us unusually optimistic. Great companies – like great pieces of art – are rarely cheap, except during moments of controversy and broader anxiety. In our view, we are in the midst of one of those unique opportunities today, given the discordant noise in global markets and geopolitics, which drove an approximate 25% USD correction in EM equities in 2018 from the January peak. We believe in embracing volatility as it grants investors opportunities to participate in great companies for the long term.
Our North Star
We maintain our approach to long-term investing in the developing world. Our focus is on idiosyncratic companies with sustainable competitive advantage, durable growth and a host of real options that will emerge over many years. In times of turbulence in markets, it is important to us to maintain our focus on this North Star.
新兴市场 (EM) 在 2018 年表现波动不定，MSCI EM 指数收缩了 17 %，且 1 月份的峰值下降了 24 %。1
由于 2018 年沪深指数分别下跌 29% 和 36%，中国的挑战成为投资者最担忧的问题。2虽然对中国经济增长的担忧去年对新兴市场情绪产生了重大影响，且股市波动可能会持续一段时间，但我们认为这个问题在很大程度上被误解了。中国经济正处于大结构转型时期，且刚经历一个飞速的增长时期，目前中国正在走向更加可持续的发展轨道。
过去 30 年来，中国的增长有两个关键驱动力：推动了本世纪初经济大幅增长的出口导向型增长，以及对中国国内房地产市场的大量投资，从而带来了房地产价值的大幅增长。而在过去的五年里，这两种传统的增长驱动力都急剧减弱。
十几年前，中国的经常帐户盈余占 GDP 的近 10 %，而目前只占约 1 %。中国在全球制造业出口中约占五分之一的份额，且在这一领域的潜力已基本饱和，长期以来推动超常增长的出口能力也已基本消失。与孟加拉国和越南等国相比，3中国的半熟练工移民月薪约为 500 美元，因此在低端制造业岗位上不再具有竞争力。相反，中国正逐渐在高附加值产业中占据一席之地。由此，贸易本质上已成为增长的破坏者。
房地产业是中国经济增长的第二大驱动力。高程度国内储蓄，加上封闭的资本帐户和有限的国内金融投资选择，促成了繁荣的房地产业。过去 20 年来，中国房地产市场一直是创富捷径，但在政府采取了近两年的措施来抑制投机驱动的房价上涨后，市场终于放缓。十月份中国黄金周假期期间，按房屋面积划分的总销售额同比下降了 27%。4在房地产行业降温的背景下，房地产投资增长也一直处于疲软状态，开发商土地拍卖接连失败，此现象迄今为止几乎闻所未闻。
在过去十年中，金融系统的杠杆作用显著增强。由于中国政府对 2007-2008 年后疲软的外部需求做出回应，持续不断的信贷用于维持经济增长，导致债务大幅增加。政府最近努力控制超额债务带来的风险，信贷增长在过去 18 个月中放缓。而最近，由于影子银行活动受到政府有意遏制，这一领域的新增贷款净额从 2016-2017 年占系统信贷总额的 12% 骤降至 2018 年上半年的 -9%。通常，信贷增长是 GDP 的一至两年领先指标，我们早已看到其影响力。中国正进行的去杠杆化与投资者已习惯的快速增长水平完全不相容。
尽管如此，中国的高负债股票并没有让我们特别担忧。我们的信心源自中国经济的两个显著特点：中国的过度储蓄和财政能力。截至 2015 年底，中国金融储蓄总额超过 GDP 的 400%，这是前所未有的。5此外，中国的公共资产负债表格外健康，财政债务水平很低（与过去十年美国的大规模财政扩张相反）。这些因素使政府有足够的能力对银行进行资本重组，打击国有企业债务，同时也以大刀阔斧的方式进行经济刺激，例如降低存款准备金和减税消费。
通过加息实现的美国货币政策正常化，以及美元大幅并行走强，导致新兴市场股票的波动性加大和市场疲软。衡量美元兑一篮子货币强弱程度的美元指数 DXY 在过去五年中上涨了20%，再加上利率上升，导致了资金从新兴市场大量流出。须牢记的是，随着美元升值，以美元计价的债务还本付息的当地货币成本也在上升，这在阿根廷和土耳其等经历了市场崩溃的国家已非常明显。
然而，展望未来 12 个月，我们认为美元持续走强的可能性非常低。第一，相对昂贵的美国股市早已预示，一场持续很长时间的牛市即将结束。这对新兴市场股票有着深远的影响，过去五年，新兴市场股票累计落后标普 500 指数约 42 %。8
第三，美国联邦赤字在过去 10 年大幅增加，加上 2018 年不必要的财政刺激，财政压力加剧。事实上，由于减税和由此带来的大量企业利润的回流，美国的增长实际上是超前的。
“脆弱五国”是 2013 年创造的一个术语，代表过度依赖不稳定的外国证券组合投资来支持增长的新兴市场经济体。但这些经济体（巴西、印度、印度尼西亚、南非和土耳其）与 2014-2016 年新兴市场周期性低迷时期相比发生了巨大变化。整个新兴市场中，外部余额普遍有所改善。在此方面，土耳其表现最为有趣——过去几个季度里，土耳其基本上消除了世界上最大的经常帐户赤字之一，利率大幅上升，并主动寻求经济衰退来修复其外部平衡。
自 2014-2016 年的黑暗时期以来，新兴市场国家的经常帐户失衡总体上已经缩小。此外，新兴市场通胀可能性较小，且利率已经调整。新兴世界的真正问题不是外部脆弱性，而是增长，这在本质上与中国以外的大多数新兴市场国家的低储蓄现象有着广泛的联系。
同样，印度是另一个依靠渐进性改革来提升经济增长潜力的国家。通过商品和服务税 (GST) 等措施；制定破产法；以及早已发生的银行资产负债表的资本重组和周期性修复，为未来经济增长播下种子。随着印度将大部分经济转移到有组织的部门，生产力和储蓄的提高可以扩大增长潜力。印度有着明显的二元经济体系，农业和国内服务业庞大但生产力不足的无组织部门弥补了相对较小但生产力很高的正规部门。成功的劳工改革将为印度采取所有那些已进入印度尼西亚，越南或孟加拉国等地的中国工作岗位铺平道路。
即使从长远来看，中国的增速放缓了 5%，但仍将占全球 GDP 增长的 30%-40%，成为世界上最大的增长引擎。然而，中国未来的经济驱动力将会与过去 30 年大不相同。如上所述，中国已从出口导向型增长经济转变为内需驱动型经济。此外，国有企业历来是经济增长和就业重要支撑，但如今却是创新型私营企业一路领先。
发展中国家由于缺乏有形基础设施的发展，反而促进了在数字世界诸如打车、电子商务和金融服务等领域的跨越性发展——正如我们几年前在移动电话领域见证的现象。在过去的十年左右，对于专注于这些令人难以置信、强大主题的公司，整个新兴市场已经成为其孵化器。这种影响在中国感受最深，中国已经成为全球创新的温床，杭州、深圳和北京开始在未来的产业中与硅谷和波士顿竞争。试想一下，在 2017 年，中国打造了全球三分之一的新独角兽，估值排名前 10 的独角兽公司中有 7 家，包括美团点评、滴滴和蚂蚁金融。这些公司会继续变得越来越重要，许多公司将为机会投资者带来巨额回报。中国拥有大量人才，使中国公司能够以比世界任何地方都更快的速度开发人工智能和机器学习等新领域。
4. EM 估值具有吸引力
我们认为新兴市场的估值具有广泛的吸引力，MSCI EM 12 个月远期市盈率最近低于其 10 年平均水平。然而，对我们来说最重要的是高质量公司的机遇。相对便宜的货币和合适股票估值的结合使我们异常乐观。伟大的公司就像伟大的艺术品，价值不菲，除非在有争议和更广泛焦虑的时候。我们认为，由于全球市场和地缘政治中的不和谐声音，从而导致 2018 年新兴市场股票从 1 月份的峰值开始大约 25% 美元回调，我们正握着全球唯一的大好机会。我们相信接受市场波动，因为它给投资者带来长期参与大公司的机会。
- a, bSource: Bloomberg, as of Dec 31, 2018.
资料来源：彭博社，截至 2018 年 12 月 31 日。
- a, bSource: Bloomberg, as of Dec 31, 2018.
资料来源：彭博社，截至 2018 年 12 月 31 日。
- a, bSource: Emerging Advisors Group.
资料来源：Emerging Advisors 集团。
- a, bSource: CRIC.
- a, bSource: The Financial Stability Board.
- a, bSource: JPMorgan, Bloomberg.
- a, bSource: JPMorgan, Bloomberg, as of Dec 31, 2018.
资料来源：摩根大通、彭博社，截至 2018 年 12 月 31 日。
- a, bSource: Bloomberg, as of Dec 31, 2018.
资料来源：彭博社，截至 2018 年 12 月 31 日。
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