The risks associated with investing in emerging markets and scepticism over their prospects is already reflected in cheap valuations. These present long-term investors with an attractive opportunity. Emerging markets have gone through a prolonged period of adjustment and correction in recent years. However, their degree of underperformance is unlikely to be sustained as earnings growth and economic performance revert to the mean. Volatility is likely for some time, but emerging-market equities have begun to readjust to an upward trend as investors’ confidence returns. The long-term investment case for emerging markets is positive – their economic growth rates are likely to outpace many developed economies.
For investors to benefit, it is important to take a long-term view. Emerging markets are still deemed to be much more risky than developed markets, but they have undergone significant changes in recent times and their prospects are no longer solely reliant on exporting commodities. The composition of GDP in emerging markets as a whole is far more diversified and less vulnerable than in previous decades, with a much higher proportion coming from domestic demand and a shift in the broader economy towards the services sector.
The MSCI Emerging Markets index, for example, now has a larger weight in information technology than in the energy, materials and industrials sectors combined, and is close behind the weighting to financials, the largest sector. In today’s world, where even fridges and microwaves can be part of the internet of things, this shift continues to generate a lot of interest from investors. Samsung Electronics (Seoul: 005930, LSE: SMSN) is very well positioned to benefit from this trend and is supported by a healthy balance sheet. The recent problems involving its Note 7 smartphone are also forcing the company to address concerns around its corporate governance and introduce reforms that are in the interest of all shareholders.
Carmaker BMW has recently added manufacturing capacity in China and is now moving into products that are designed specifically for the Chinese consumer. We believe Brilliance China (Hong Kong: 1114), BMW’s joint venture partner, will benefit from this and from the change to battery-driven cars. It has a solid balance sheet and we think it is an undervalued and profitable business with a great brand name.
Another Chinese opportunity is Tencent (Hong Kong: 0700), the largest online gaming company with more than 900 million daily users. It is a leader in the country’s internet sector and controls the largest and most popular app, WeChat, China’s equivalent to WhatsApp. But WeChat is much more complex and interesting than WhatsApp. Consumers can use it to do their online banking, buy insurance products and shop online.