Emerging markets - a contrarian's wonderland

20 October 2022

AssetChinaEmerging MarketsFixed IncomeGatekeeperGatekeepersGeopolitics

Expert: George Rolls, Investment Director on M&G Global EM Fund Facilitator: Mark Rushton


  1. The current bear market is the most pronounced it has been over the last 25 years
  2. There has been a lost decade of returns from this currently ‘unloved’ asset class from a valuation perspective
  3. China is the elephant in the room but Chinese retaliation is a potential threat


Offshore inflows are small relative to on-shore investment (mainly China led).

EM share of Global AUM is at 6.3% and US managers are heavily underweight EM. This chimes with portfolios as EM investment is higher than 10 years ago.

There is a belief in the long-term story, though we are not seeing the benefit from the onshore investment yet and savings rates are low in less mature markets.

The catalyst for EM to grow as an allocation share is China & US cooperation; and the key may be China & Taiwan investment.

For those investors that need a reason to invest, EM led out of the Global Financial Crisis, yet there has been a period of poor returns as China issued 12% per year, every year and South Korea, 5%.

Governments and Corporates need to convince investors about their stewardship. The key is to bring the decision back to valuation.

Do investors have ETF exposure in EM? Liquidity can be elusive in some shares and corporate governance weak. Generally, exposure is mainly active.


The focus has been on utilities then banks then education, but some interesting context is surprising:

  • MSCI Taiwan Semi-conductor composition is . . . 53% of the index, with Tech Hardware at 73%.
  • China (including Hong Kong) comprised 43.5% at the high in Feb 2021, yet now stands at 29.7%, however, it is still material in active EM equity, so we cannot ignore China.

China definitely cannot be ignored. M&G is broadly neutral on China in its GEMS Fund or overweight in its EM Fund.

There are some good Chinese mid-cap companies holding cash and little leverage. Corporate Governance has improved in some companies that historically performed poorly.

Valuations are disparate with some investors being happier to buy US with high EPS (c.15.9) than EM (c. 10.0).10

There has been a series of earnings revisions.11.1 Note that 5 companies – TSMC, Alibaba, Samsung, Tencent & Meituan - command a weight of 30% of the index.

And there have been huge swings in the analyses of US EPS; to be compared with ‘calmer’ more consistent (if poor) EPS in EM.11.2

When President Xi attacked the Tech and Education sectors, China’s 12m forward EPS fell from c. 7.00 to 6.00.  Note that 12-month forward PE fell from 15.0 in Feb 2021 to 9.5 now.

China is worrying investors so that they might ask why invest in EM and not, for example, Europe – given how Taiwan is a major issue. China’s invasion of Taiwan would mean c. $1tr will be foregone. The US chip legislation has added fuel to this issue while China is best in the world at command economics.

China views Taiwan as theirs. Seemingly, China has a stronger case for reclaiming Taiwan than Russia has over Ukraine. It is probably a case of when, not if, China acts.

M&G is currently quite contrarian and believes in buying into the EPS story and better governance; seeing more upside in Taiwan and S Korea (with chip waivers granted from US – for 1 year).

The bear semi-conductor case is the negative, pandemic-induced cycle after a long bull cycle. M&G remain positive, believing this is a time to invest on the back of the prevailing geopolitical price depression.

The Korean Won has suffered this, down heavily vs USD. Note that 24% of South Korean index is Samsung and USD strength is good for Samsung and other exporters in USD.

In Taiwan, TSMC is 45% of MSCI Taiwan and MSCI Taiwan forward PE fell from almost 20.0 in Feb 2021 to 10.4 now, probably on the back of the China risk…

Russian allocations in 2013, due to Crimea, fell from 6% to 3.5%; and then off from 4% in 2021 to 2.5-3.0% before Ukraine thereafter falling to 0% in 2022.

M&G’s thinking is 80:20 for their analysis, bottom up: regional allocation within EM funds.

The threat of Chinese retaliation:

80% of Rare Earth elements come from China and 80% of Active Biotech and Pharma is supplied from China.

Chinese A-shares are trading at a premium (c. 40%) to the home shares, which reflects central controls and regulation.

Xi is refocusing on a common point of prosperity – a benevolent approach.

Why would China ‘shut up shop? Compared to Russia, it would not. China’s share of global GDP has been 30%.

Other EM Regions:

In Latin America (Latam) there is a degree of stability from some good Latam politics in Chile and Colombia (with Brazil at the end of the month).

Chile has delivered better than expected news. It rejected a constitutional revision that had been in place for a year or two and prevented a series of very rigid and strict handouts.

Colombia has a leftist president, with polarisation of right and left, yet cabinet appointments have been acceptable - decent and competent.

India is no longer able to exploit cheap labour. Look out for the big 3 conglomerates as a proxy for India.

Brazil is ongoing with the market relaxed and blasé about the Brazil elections. The election is not a game changer in terms of what the implications are for policy.

Key takeaway:

  • While politics is not always a doom and gloom scenario, geopolitics is really not great at the moment