While there is no doubt that emerging market growth investors have been through a pretty awful recent period of performance, we found ourselves at the turn of the year feeling more optimistic in outlook terms than we had done in several years. The combination of the regaining of economic momentum for major emerging economies; robust underlying fundamentals for our holding companies; and the prospect of ‘King Dollar’ being dethroned, all (still, to our mind) suggest that emerging markets may be on the cusp of recovering from a ‘lost decade’ of relative underperformance vs. the US. Emerging markets as a whole are trading at crisis-time valuations just as their outlook, at least relative to the developed world, is as strong as it has been in years.
Despite what should be a strong set of tailwinds looking forward from here, we are yet to hit that decisive turning point in share price performance. But nothing that we encountered during Q1 particularly changed our minds that an EM ‘spring’ is imminent. The economic recovery in China feels a little more tentative than we may all have hoped – but the direction of travel across our key markets is still unambiguously positive.
The major negative global news flow of the last three months, centred on banking fragility in the US and Europe, was irrelevant to us from both a sectoral and geographical perspective. This is not to say that the onset of a financial crisis in developed markets would not be meaningful to EM. But if, as seems to be the case, the fallout from SVB and Credit Suisse is limited and localised, Q1 has simply proved to be another case of ‘risk off’ sentiment dragging down EM share prices despite resilient underlying fundamentals.
Internally we continue to drone on about the continued health and importance of earnings growth. We place so much emphasis on earnings growth because 1) it is what drives long-term value throughout the inevitable fluctuations in sentiment; and 2) it is something we can analyse and forecast, unlike, for example, which North American regional banks will remain solvent, and how Central Banks will respond.
Looking back at the last decade, our portfolios did what we expected them to do by compounding earnings growth, and in doing so amplifying what has been pretty lacklustre GDP growth in emerging markets. Meanwhile, EPS growth for the MSCI Emerging Markets Index has been 2% for the last decade. An analysis of the composition of returns of the index shows that it only grew earnings in 4 out of the last 10 years – is this really capturing the bottom up, fundamentals-driven growth story of emerging markets?
If we rely on earnings as an investor, then understanding which companies are genuinely capable of achieving high levels of sustained earnings growth is the main part of what we spend our time doing. It is why we are so excited to have resumed our on-the-ground travel since last year. The on the ground learnings that we share in the majority of our blog posts help us build a more complete picture of each investment case, which arms us with as much information as possible to make informed decisions.
The biggest challenge we have faced as investors of late is that markets often do not care about fundamentals and whilst fundamentally holdings in Arisaig portfolios are larger and stronger businesses than they were before covid, their stock prices have not reflected this. Over the long-term, however, and despite all the recent evidence to the contrary, we remain confident that fundamentals do matter and share prices eventually will catch up with operating reality.
Our clients will already be aware that the origins of the name of our company are in fact quite mundane. Our three founders, hatching a plan to launch an independent investment boutique into a relatively empty Asian market in the mid-90s, devised a code name for the project from a small Scottish village which was close to their hearts. When the plan became reality, the Arisaig name stuck. We later made the chance discovery that the village’s original name Àrasaig does, in fact, mean ‘safe bay’ in Scottish Gaelic, noting the happy coincidence with our own attempts to provide a refuge for capital within stormy Emerging Market waters.
It is important for Arisaig as a business to reflect where we can and cannot create ‘safety’. We cannot avoid bad weather. We can, and will, identify those boats in the harbour which are most firmly anchored. They will still, at times, be violently bounced around by the waves – but are those most likely to ride out the storm and sail most proudly when calmer waters return. Much like the turquoise seas of the Scottish West Coast, sunny conditions in Emerging Markets are well worth enduring the lengthy periods of dreich (dreary, bleak weather in Scots), however interminable these may feel at the time.
Tortuous nautical metaphors aside, what we continue to do is to remain patient enough to allow earnings growth to regain its grip over long-term share price performance.
