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Transcript

How to capture the emerging markets rally · On The Money

• 0:00
  Dave Baxter: If you ask me about the top performing stock market of the last year, I'm not gonna be talking about The US. I'm not gonna be talking about The UK. I'm not gonna be talking about Europe. Right now, I'm talking about the so called emerging markets and Asia. If we look at some of the individual markets, Korean shares have been flying, Taiwan's been doing incredibly well, and even some unloved markets like China at least seem to have crept back into the conversation.
• 0:28
  This isn't a region that tends to crop up that prominently in everyone's portfolio, so today I want to look at whether you should get exposure, how you can get exposure, and also where and how you might want to tread carefully given where valuations have moved to. So welcome back to On The Money, that's the show looking at the issues affecting your savings and investments. I'm Dave Baxter here at II and I have a great guest in Jason Peacock, one of the managers on the Jupiter Asian Income Fund. So, Jason, thanks very much for joining today.
• 1:03
  Jason Pidcock: Thank you for having me on, Dave.
• 1:04
  Dave Baxter: So let's kick off in, I suppose, attempting to explain what's been going on. Know, earlier I was looking at the twelve month returns of Asia, emerging markets and so on and they are enormous, many of the funds in this space have made huge returns, some even around the 90% territory. Obviously, there'll be lots of different factors at play, but what are, I suppose, the most obvious and kind of pertinent drivers of those big returns?
• 1:37
  Jason Pidcock: Earnings growth being very good and valuations not being overly expensive. That's key. We had a period where people have started to think US exceptionalism was overstated a little and US valuations were very high. Asia and emerging markets started from a point where valuations were low. They benefited from a weaker US dollar, and we've seen tech EPS growth in Asia in particular be very strong and commodity strength helping a lot of other emerging markets.
• 2:12
  Within Asia, Northeast Asia, Korea, Taiwan has really driven returns, and they are the more tech focused markets, and when I'm talking about tech, I'm talking about hardware rather than software, And we've reached the point where Taiwan is now the fifth largest stock market in the world by market cap, only behind US, Japan, China, Hong Kong. Ahead of The UK, ahead of any other market in Europe, and recently it's overtaken India. We really have some world class companies in Taiwan that are vital suppliers to the most important, the largest tech companies in The US. So we feel very excited about the region. We've been overweight this sector, the tech sector, even though share prices have done very well, EPS growth has been strong, so the companies haven't become a lot more expensive, and we think growth will continue beyond 2026.
• 3:15
  We're happy to remain overweight this sector, but there are other sectors that we're happy to invest in as well.
• 3:21
  Dave Baxter: So I suppose kind of drilling down, first of all, on one sector or trend, you know, you talked about kind of hardware, talked about tech, and what's really interested me is, you know, you mentioned Taiwan Career. If we look at specific stocks, there's TSMC, SK Hynix, Samsung Electronics have all done phenomenally well in the last year or so. How much the minutes of that trade, I suppose, is dependent on this kind of AI sentiment and beyond that, what is looking interesting in the region?
• 3:57
  Jason Pidcock: So you use the expression AI sentiment, and I agree sentiment is very important, but the AI story is real. It is delivering earnings growth. It is delivering revenues, that's what's important. It's not just sentiment without basis. Looking ahead, we do expect higher demand from CapEx budgets from the big US tech companies.
• 4:27
  Data centers are still being built. Data servers have to fill them out. We've got contract manufacturers in Asia like Hon Hai and Quanta that are actually manufacturing, assembling the data servers on behalf of American customers who don't do the manufacturing themselves. We've got chip companies, as you mentioned, TSMC leading in logic chips, Samsung and SK Hynix, two of the three large players with memory chips. Prices for those have been going higher, because demand is extremely strong.
• 5:03
  And if we look a little further out, we're very excited about the prospect for humanoid robots continuing the demand for tech hardware revenues. We think the inflection point for humanoid robots becoming mass market items will be between 2030 and 2035. There's a huge amount of advancement taking place right now. They're still not ready to be in people's homes. I think the first buyers of tech, of humanoid robots will be people who like gadgets, the kind of people who were the first to buy electric vehicles, but they might not be the finished article.
• 5:50
  You'll see them in factories, you'll see them displace some jobs for specific tasks, but multitask robots we think will become ready around about 2030. Then you'll see the early adopters, people will recognize that they are very useful to do all your housework, gardening, all sorts of other things. You can talk to them instead of tapping on a keyboard on your computer or, touching a screen and it will give you a verbal answer. But the amount of information, that it will be able to give you and the tasks it will take off your hands will be I think people are underestimating this. So we do think they will be mass market items at some point between 2030 and 2035.
• 6:37
  Cost will be roughly in the region of what people might spend on their own car, so the range could be, you know, $20,000 to a $100,000 for most of them. Some families might have more than one. We're talking to companies outside of the tech sector and asking them, how do you see the world changing when the average reasonably affluent family has a humanoid robot and how will that impact your business? A lot of these companies are very excited. We own a general insurance company in Australia and they were one of the early adopters of AI to improve their own productivity.
• 7:20
  They say, yes, when this happens, they will be able to give each customer an absolutely bespoke price rather than going off postcode or area that the home is in, I'm talking about for home insurance, because the robot will be able to relay so much information to the insurance company's computer, a price will be given, the robot will compare it to other prices and accept on your behalf. So you will simply be able to say to your robot, sort out my home insurance, then you can wash your hands of it. You won't have to do anything else so long as you're comfortable giving the robot your bank details. And if you've bought that robot from a company that maybe makes your phone today where, you know, you're doing your banking transactions through that phone, it won't change a lot in terms of that necessary trust. So we think the the next ten years is very exciting.
• 8:16
  The world will change. It'll be quite visible because it's going to be a hardware, adoption, and Asia will be at the forefront of this.
• 8:26
  Dave Baxter: Interesting. Do you I mean, obviously, we've begun talking about AI, which is one of kind of dominant conversations, but, I imagine with all the excitement around that, there is a risk of, hype and that it must be a difficult task to try and separate out, you know, the real winners from those names that are getting caught up in the the froth. How much of that are you seeing in this region? Are there kind of particular, I suppose, areas where you are seeing more value? Are there areas where you are getting a bit kind of wary of how far valuations have gotten, that kind of thing?
• 9:11
  Jason Pidcock: Obviously, we take valuations into account all the time, and so we are thinking about relative valuations as well as compared to a company's own history. We don't think the memory companies in Korea, Samsung and Hynix, look expensive relative to their growth rate and they are now signing more long term agreements for supply of chips. That should, to a degree, soften the volatility of revenues and earnings. I'm not saying that they won't continue to be cyclical, they absolutely will, but they're still riding an up cycle and in the meantime their balance sheets getting extremely strong, they're getting to very large net cash positions, which will help defend them when pricing does start to roll over, which may not happen until sometime during 2027. Always difficult to to to know, but it is an oligopoly, this business, those two with Micron of The US, and demand for memory chips is right now looking pretty insatiable.
• 10:18
  We know that won't always be the case, we do take valuations very seriously, but for now we're very comfortable. TSMC's got great pricing power. It doesn't look expensive to us. One of our best performing tech stocks this year is MediaTek, which is a chip designer. You could think of them almost as a mini NVIDIA.
• 10:42
  Together with Google, they are rolling out new AI chips. Although they have appreciated a lot recently and their short term PE has therefore gone up considerably, looking out two or three years, they don't look particularly expensive. We we have taken a little bit off the table from our tech stocks, but that but the waiting today is still higher than it was a few months ago because share price appreciation has been so so great. And we are thinking about the other attractive sectors in the region. Last year, gold miners did extremely well because the gold price, went up significantly.
• 11:24
  Year to date, gold price has come down and oil prices, which are and oil is a big input cost, particularly diesel, have, of course, gone up. And so that's taken the shine off gold miners, but we are confident that they will have their day again, and we have a reasonable, waiting to to gold via two miners. The defense sector has been extremely strong. We own one defense company based in Singapore and met the CEO last week. Their order book has absolutely mushroomed and this is a solid order book from governments, so it is absolutely real and we believe the cycle for this sector is multi year.
• 12:05
  And we have companies in other sectors. The largest bank in Singapore DBS has had a phenomenal run. That still looks good to us. So there are other areas we do make changes to our portfolio, although we are long term investors and our turnover generally is lower than many of our competitors.
• 12:25
  Dave Baxter: So some of these regions appear to have become goods. Obviously, we're talking a lot about Korea, and I imagine a couple of years ago, generous investors probably wouldn't even have considered that market so much. Are there kind of regions, countries at the moment in this space that look more, unloved and might be sort of due, that limelight, hopefully?
• 12:52
  Jason Pidcock: The the more unloved markets are the more emerging markets, and we tend not to invest in markets that are very emerging or frontier. I'd say the only real emerging market we invest in is India, and our weighting today is lower, quite a bit lower than at the beginning of the year. Some people consider Korea and Taiwan to be emerging markets. We know that as countries they are very, very developed, so we don't really think of them as emerging markets, could be seen to be technically by some. We like Singapore very much.
• 13:28
  We've got a big overweight in Singapore. That's done well. And we still like Australia. Australia is often underestimated by regional and global investors, But there's great breadth of different types of companies to invest in in Australia. It's not all about the mining sector.
• 13:46
  So our key overweights are Taiwan, Australia, Singapore, and South Korea. We're happy to avoid the the smaller markets in Southeast Asia and Indochina for now. We don't feel that we need to look for the next big thing because we are investing in what really is working and we're in a lot of the stocks that we own see the whole world as their marketplace, not just the nation that they're based in. Whereas in a lot of emerging markets, domestic demand typically is the key driver, and that ebbs and flows. In years where you have a higher oil price, unless you're investing in a country like Malaysia, that's a net oil exporter, that that actually can dampen sentiment quite considerably.
• 14:40
  We've seen that in, India, Philippines, Thailand, and and other other smaller markets.
• 14:47
  Dave Baxter: So let's turn to, as I mentioned in the intro, you know, China. That's been very out of favor in recent years since, you know, going back to around 2021 or so. You're one of the, I suppose, Asia managers who doesn't really seem bothered about China, even though it's a big part of the the index. What's your kind of view on it now, and is there anything that would kind of draw you to go into that?
• 15:15
  Jason Pidcock: We have no direct holdings in China, so we don't have any businesses that are domiciled in China. We do have stocks based in other countries that export some of their produce to China, so roughly 11%, 12% of the revenues of the portfolio come from China, and that's because we think margins are often better when a company is exporting to China rather than a company based in China selling into that domestic market. It's ferociously competitive marketplace, and if any stock or sector is seen to have quite attractive margins, that tends to attract a lot of new competition very, very quickly, and then end up with an oversupply problem. There will have been a misallocation of capital and very poor stock market returns, and China has had very poor returns for over thirty years now. Over thirty years, it's been one of the worst performing equity markets in the world.
• 16:19
  Our business is to outperform for our clients, and therefore we should pick markets where we think we can find stocks that are more likely to outperform. We don't see any attraction to China right now. It's highly unlikely we will go back anytime soon. By that, I mean years rather than months or weeks. I think from our point of view, the political system is a drag.
• 16:51
  It is a command economy. There is misallocation of capital, whereas other markets in the region, they are freer. They're not just democracies, but they have freer, economies, and and we that is more suitable for for the kinds of business businesses we're looking to invest in.
• 17:14
  Dave Baxter: Makes sense. If I were to kind of tell a beginner investor what to look at when they're considering Asia emerging markets, you know, one of the things I would probably mention is the fact that a lot of the funds will have a lot in in China. But what if there were key considerations you were to, like, outline to people like that, for example, you know, relations with the US dollar, those kind of things, what should they be aware of that they wouldn't necessarily have to think of if they were simply investing in developed markets or so called developed markets?
• 17:50
  Jason Pidcock: I think it's always good as much as possible for people to invest in what they know. And I understand the question is about beginner investors, but actually a lot of young people, even if they haven't had a history of investing, they will be familiar with a lot of very large Asian companies They would have placed their trust in those companies by buying their products, whether it's Samsung or somebody else. Then if you just look at just how big these companies are, over the next twelve months, two of the three companies with the highest operating profit in the world are quite likely to be Samsung and SK Hynix, the third being Nvidia. So you really have global giants based in this region now. So if then you are comfortable with the political system, comfortable with the rule of law, and you take the view that currency risk isn't too great, you look at the budget deficits and the debts of these countries and compare them to Europe, The US and even Japan, then actually you can find this region very compelling compared with maybe your home market.
• 19:06
  Certainly The UK doesn't really have political stability. We've had quite a soft currency. We've got a debt problem. So in Asia, have less debt, higher growth, higher EPS growth, and valuations that aren't particularly attractive. I would never say put all your eggs in one basket, particularly for want of a better word, a novice, but if you think that a way to reduce risk is to have a reasonable amount of diversification, I would say Asia absolutely qualifies for a broad based equity portfolio, and you might find that that is one of the best performing parts of your portfolio.
• 19:50
  Dave Baxter: I suppose that it's worth pointing out that there is, you know, people always love to talk about the concentration risk in The US, that the Mag-seven make up whatever the large proportion is now of that index, but obviously emerging markets, Asia have a similar issue, TSMC is something like fourteen-sixteen percent of the main benchmarks, as I mentioned, often a lot of exposure to China and very specific markets, so perhaps that's also something they should bear in mind to try and mitigate the risks.
• 20:23
  Jason Pidcock: Worth bearing in mind, but most investors won't have all their money in Asia. So if they have a global portfolio, then that reduces the weighting of any one single company, whether it's Nvidia or TSMC or any other. But, you don't want to have too many stocks in your portfolio. Many people think the optimal number overall is 20 to 25. We have 25 holdings in our portfolio.
• 20:49
  We certainly wouldn't want to dilute the weightings of our favorite stocks by having a list much longer than that. Concentration can be a tailwind if you're picking the right companies, and these companies are genuinely producing that earnings per share number. You know, they do have genuine profitability. They are so important to the global economy. So then it's a question of thinking, okay, well, how is the global economy going to fare?
• 21:26
  Is there any reason why that could take a knock? Looking at the competition, for these companies or potential competition. But some of the biggest companies have been the best performers, and that's true in The US, that's true in Asia, and so being put off by concentration risk wouldn't have worked in your favor for the last twenty, twenty five years.
• 21:57
  Dave Baxter: So beyond tech, what, I suppose, interesting trends are at play in the region? And, are there ones that maybe aren't captured quite as well in, if you're buying the MSCI World Index?
• 22:16
  Jason Pidcock: Well, as I said, we still like selected gold miners, we still like the defence sector, we do like selected financial stocks, mainly banks, but not always banks. We have an insurance company. We have a diversified financial. In some of the younger markets, banking is still a high growth sector as people bank for the first time and have more reasons to transact with their bank, taking out a mortgage, taking out a car loan, etcetera. There's plenty in that sector to look at.
• 22:54
  Then we might have selected stocks elsewhere in different sectors, but I think the absolute key sector is technology. That is the largest sector. Then it's financials, And then you will have the others like consumer staples, consumer discretionary, utilities, telecoms, materials, etcetera. So I would say be comfortable with the country you're investing, be comfortable with the sector you're investing in, and then try and pick a great company. And if it's not too expensive, stick with it.
• 23:28
  Dave Baxter: And let's turn, I suppose, to the income elements. If people are looking for income, Asia is often the one that poses the most competition, I suppose, to The UK, at least if you just simply look at yield. How does, I suppose, Asia compare in terms of composition as a yield market? You've mentioned kind of bankers and miners. Is it just we're kind of targeting the same sectors, or are there kind of important differences to highlight?
• 24:03
  Jason Pidcock: Although we only have 25 holdings, we do have quite good diversification within that 25, and we're not beholden to one or two sectors for the income. So we have about five sectors that have a number of stocks in each of those that yield more than 4%. We break the portfolio down, so then we look at the stocks we own that yield between four and two, and then we we have just a very few that yield less than two, but to justify their presence in our portfolio, they must and do have rapid dividend growth, or our expectation of that. So the yield on the fund today is about three. That's lower than it's been in the past.
• 24:45
  It has been compressed by higher share prices, so our total return has been very attractive and ultimately we are looking to deliver the highest possible total return to our investors with income being a proportion of that. Some of the tech stocks in particular have seen their yields compressed, so we've had to work around that and think where are we going to derive higher income levels from, but also to a degree we've allowed the yield to compress because we haven't wanted to sell out of stocks that we think will give a high total return, even if more of that is going to come from capital growth and a little less from dividend yield. The fund as a whole has to yield at least 20% more than the index, so it's not a fixed target, and the yield on the index has also compressed as share prices have have gone up. The index yield is not much higher than 2%. Our yield is about three, so we're comfortably above that minimum requirement.
• 25:51
  Dave Baxter: Does that tech story, I suppose, kind of threaten the yield on our field? We if you look, for example, at global income funds, they often end up holding some of those tech stocks, I would assume, in order to capture the good total returns, but that does actually mean that in practice they have a few pretty low yielders in there.
• 26:11
  Jason Pidcock: It will in the short term as we do, but if you're confident of dividend growth, then it'll make it easier in year two or three or four unless you've seen further huge share price appreciation, in which case you have got that you have delivered that great total return to your investors. To give you an example, TSMC, they pay quarterly dividends and their dividend has doubled in the last two years. So from our point of view, they're absolutely doing what we would like them to do. They are growing their dividend rapidly. We can't fault them for not doing that, but because the share price appreciation has been so great, that has kept the yield at a low level.
• 26:57
  But, you know, can't argue with that. We've we've had a great share price return, and ultimately, we are looking to maximize total return. So so we've been very happy investors.
• 27:08
  Dave Baxter: Makes sense. That is all we have time for, but thank you for coming on.
• 27:12
  Jason Pidcock: Thanks very much, Dave.
• 27:14
  Dave Baxter: And thank you for watching and for listening. Do let us know as ever what you think in the comments, and you can contact us directly, if you have views, if you have thoughts on future potential episodes. That's by emailing us at otmaii dot co dot uk. Thanks again and catch you next time.