By Jayson Forrest
Monik Kotecha (Insync Funds Management) and Chad Hitzeman (Global X) discuss the place of Asia and emerging markets in a portfolio of global investments.
Asian and emerging markets have offered some of the best economic growth for decades, but capturing this growth in investment portfolio returns has been more difficult. While some firms, such as Taiwan Semiconductor Manufacturing Company (TSMC), have become valuable global businesses, and the Chinese economy has grown to be the world’s second largest, it has been difficult for listed market investors to capture the benefits of this growth in their portfolios.
Add to this growing geopolitical issues — like U.S. tariffs, Taiwan, the Spratly Islands, and the potential for regional conflict in Asia — all contribute to making emerging markets a challenging sector for investors to support.
Against this backdrop, Monik Kotecha — Chief Investment Officer at Insync Funds Management — acknowledges that emerging markets have economic drivers and investment results that differ significantly. However, he warns that for investors to avoid an exposure to emerging markets is to do so at their own risk, as they will inevitably miss out on growth opportunities that this sector offers.
Chad Hitzeman
Global X
Monik Kotecha
Insync Funds Management
Nathan Lim
Lonsec Investment Solutions
Speaking at an IMAP webinar on ‘Portfolio opportunities from Asian investment’, Monik says Insync’s approach to selecting business opportunities in emerging markets hinges on its core belief that share prices follow the earnings growth of a company over the very long-term. This means identifying sustainable earnings growth businesses that ultimately deliver good shareholder returns.
“Looking at the distribution of returns in the U.S. going back about 100 years (1926-2022), only around 3.4 per cent of the entire market during that period actually generated almost all of the shareholder returns coming out of the United States. Effectively, a small fraction of stocks drove US$55 trillion in wealth,” says Monik. “This emphasises how critical it is to pick the right stocks when building a portfolio.”
A revolution in global consumption is occurring, where the centre of economic activity is shifting away from Europe and North America to emerging markets. It’s estimated that by 2030, 60 per cent of growth in the global economy will come from emerging markets. This presents a staggering US$10 trillion consumption growth opportunity over the next decade. This is a ‘once in a generation opportunity’
The emerging middle class
When building its portfolio of 26 stocks across 15 global megatrends (including data analytics, pet humanisation, and workplace automation), Insync looks for businesses with sustainable earnings, which ultimately drives the share price over the long-term. Monik says if investors can focus on finding businesses that are highly profitable, can deliver sustainable earnings, and are linked to strong megatrends that fuel their growth, then they’re likely to do well with their investments.
One megatrend Insync is particularly bullish on is the emerging middle class. According to Monik, the emerging markets consumer is an absolute powerhouse, with about four billion additional consumers expected to join the middle class category by 2030. Approximately half that number is expected to come out of Asia and Latin America.
“A revolution in global consumption is occurring, where the centre of economic activity is shifting away from Europe and North America to emerging markets. It’s estimated that by 2030, 60 per cent of growth in the global economy will come from emerging markets. This presents a staggering US$10 trillion consumption growth opportunity over the next decade. This is a ‘once in a generation opportunity’,” he says.
Monik expects to see growth in the emerging markets middle class happening in three key areas:
1. Demographic shifts: By 2030, India, Pakistan, and Bangladesh will contribute to over 40 per cent of new middle class consumers. The size of India’s consumer market is projected to triple to US$6 trillion by 2030, up from US$2 trillion in 2020.
2. Growing purchasing power: The growth of the middle class will see an increase in spending by higher income middle class consumers, with China alone expected to have 160 million middle class households by 2030. This will drive accelerated demand for higher quality goods and services — from healthcare and education, to luxury goods and travel.
3. Changing preferences: In a post-COVID world, shifting attitudes, demographics and nationalism are rapidly changing the consumer landscape. This could result in more consumers actively looking to source locally made products.
Investing in emerging markets does have some unique risks. Investors need to know whether they’re being compensated with an appropriate total return against the risk they’re taking on. However, we believe India ticks all the right boxes from an investor standpoint
Amazing India
Chad Hitzeman — Head of Institutional Sales at Global X — shares the view about the growth of the emerging markets middle class and the opportunities this provides for investors. Global X currently identifies India as being the biggest structural long-term performance opportunity for investors.
Chad points to a number of reasons for this, including: demographics (a large, young and educated population); government (the world’s largest democracy); governance and government reform; technology innovation; friendshoring; and consumer consumption (per capita income is expected to double by 2028, enabling greater consumption of goods and services).
“Investing in emerging markets does have some unique risks. Investors need to know whether they’re being compensated with an appropriate total return against the risk they’re taking on. However, we believe India ticks all the right boxes from an investor standpoint,” says Chad.
Emerging markets are very interesting tools for diversification. They have growth dynamics that are different from developed markets — from demographics through to consumer growth. But when investing in emerging markets, you do have to look for a continuity in reform
China: An issue of government, governance, and reform momentum
However, Chad believes one of the dangers of investing in emerging markets has been the relatively strong focus on China over recent years. He says while China has been an economic powerhouse, when you consider the equity market and shareholder value creation within China, it’s not proportionate to its economic growth.
As an example, Chad points to 2020, when Ant Group (an affiliate company of Alibaba) was planning to have an initial public offering to raise capital that would value the company at over US$300 billion. However, Beijing stopped this from happening, which erased shareholder value.
“You need to be very mindful that when you’re investing in emerging markets the three most critical factors are: government, governance, and reform momentum,” says Chad. “When talking about emerging markets, reform is absolutely essential, because emerging markets need to continually work towards structures that enshrine ownership of private property, including the equity ownership of shareholders.”
While Chad believes the China story is compelling — with the Chinese economy having grown over 11x since 2001, making it the second largest economy globally — its equity market has performed very differently.
“A portfolio of China’s top 50 companies in the 20 years to November 2024 only grew by 2.8x,” says Chad. “So, China’s economy grew at 11x, but the equity market grew by 2.8x. This is a real mismatch. In comparison, since 2001, the U.S. grew its economy by 2.5x, while the S&P 500 grew at 8.4x.”
Although China’s economy has powered ahead over the last two decades, the equity risk of Chinese stocks has remained high, compared to developed markets, due to issues around government, governance, and reform momentum. Subsequently, despite this economic growth and the greater risk shareholders have taken on, investors in China have not been rewarded with higher returns.
According to Chad, since Xi Jinping came to power in 2012, there’s been a policy reversal on many fronts, including a resurfacing of state-owned enterprises. He believes these enterprises are problematic because they are often inefficient and typically don’t reinvest for growth.
“Emerging markets are very interesting tools for diversification. They have growth dynamics that are different from developed markets — from demographics through to consumer growth. But when investing in emerging markets, you do have to look for a continuity in reform,” he says.
“For over four decades, China had a scheduled succession of power. This period oversaw successful economic growth and reform. However, Xi Jinping removed the two-term limit on the presidency, effectively allowing him to remain in power for life. As a result, I suspect there will be a reintroduction of anachronistic political dynamics into the Chinese system, where we’ll see China move from highly efficient, highly effective, highly technocratic working groups, to perhaps intra-party faction fighting and political capriciousness.”
In comparison, Chad says the Prime Minister of India, Narendra Modi, is doing a much better job positioning the Indian economy for greater governance and reform.
“Since becoming Prime Minister in 2014, the number of people in India who have moved into the middle class has been astounding. Modi is successfully bringing informal elements of the economy into the formal economy, while being fiscally prudent by keeping his foot on capital expenditure. So, for an investment perspective, the stars align for us with India.”
China is also exposed to some great trends. Not only is it a leader in electric vehicles, but also with digital technology. Chinese consumers make up 23 per cent of global sales in luxury goods and that’s forecasted to grow to 30 per cent in the coming years. So, investors need to be more thoughtful in terms of their exposure to China and the investment opportunities this market provides
It’s not all bad news for China
Insync’s view on China is more positive. Although it sold out of its Chinese equities in 2019, due to Beijing’s interference with local companies, Monik says this is reflected in the low valuations the market is currently seeing in Chinese equities. However, he is optimistic that the heavy hand of government seen over the last few years, will begin to ease.
Looking forward, Monik believes there are enough reasons to be positive about China. He says valuations look attractive, and as government interference begins to recede, it will enable companies to perform better.
“China is also exposed to some great trends,” says Monik. “Not only is it a leader in electric vehicles, but also with digital technology. Chinese consumers make up 23 per cent of global sales in luxury goods and that’s forecasted to grow to 30 per cent in the coming years. So, investors need to be more thoughtful in terms of their exposure to China and the investment opportunities this market provides.”
And while there is strong posturing coming from Trump regarding the imposition of tariffs on China, Monik is confident this will only be marginal.
“China is a very important economy, not only in terms of exports, but also in terms of demand for goods and services it imports. So, while Trump is talking tough about tariffs on China, I don’t actually believe these will be too extreme.”
Remember, equity markets don’t occur in isolation to other factors moving within the global system. Emerging markets are a dynamic and wonderful opportunity set. When evaluating emerging markets, ensure you’re cognisant of what’s going on in the wider market, as well as be mindful of the government, governance, and reform momentum happening in the emerging market you’re considering
China moves to gold
Global X believes the trend it’s seeing in the growth of gold with Chinese consumers this year, is a result of it being used as an asset diversifier to offset property and residential real estate, which haven’t performed well. According to Chad, China’s real estate sector has historically contributed about 25 per cent of the country’s GDP, making it a major pillar of the economy. However, with this sector failing, consumers are looking for value elsewhere, which explains the strong uptake of gold in China.
He adds that with many Chinese consumers not going into cash (renminbi) accounts, instead preferring the liquidity of gold, this is a definite sign of ‘lukewarm’ consumer sentiment in China.
“In addition to Chinese consumers buying gold, we’re also seeing buying from the People’s Bank of China (PBOC). The PBOC is looking to diversify its reserves, including diversifying away from U.S. denominated assets like Treasuries. That might be a reflection of duration risk, which the PBOC wants to dispose of, but it could also be a reflection of how the world is moving towards deglobalisation and trade alliances.”
Forgotten emerging markets
Understandably, while there is a great deal of focus on China, Monik adds there are many other opportunities in emerging markets that investors should consider. He refers to Latin America, where there are a couple of economies in this region that continue to develop strongly, like Mexico, despite the threat of trade tariffs from Trump.
“Mexico is a very important trading partner for the United States. So, if the U.S. starts imposing major tariffs, then that’s going to create significant problems for the U.S., as well as be potentially inflationary for it. The U.S. doesn’t have the cheap workforce to do the amount of onshoring it needs without the help of countries within the surrounding region,” says Monik.
When looking at Mexico’s GDP per capita — which is also something that needs to be considered when investing in emerging markets — it continues to develop well, which is a clear indicator that the economy is healthy. According to Monik, Mexico was travelling at about US$10,000 per capita, but that’s now up to about US$13,000 per capita within a very short period of time.
“It’s important to not only look at the overall economy, government, and governance of a country, but also the overall quality of the businesses and their respective business model within that emerging market,” says Monik.
“There are some quality opportunities in Latin America, and particularly in countries like Mexico, which tend to get overlooked. So, when thinking abut emerging markets, investors need to have a broader view beyond Asia.”
It’s a view shared by Chad: “Remember, equity markets don’t occur in isolation to other factors moving within the global system. Emerging markets are a dynamic and wonderful opportunity set. When evaluating emerging markets, ensure you’re cognisant of what’s going on in the wider market, as well as be mindful of the government, governance, and reform momentum happening in the emerging market you’re considering.”
About
Monik Kotecha is Chief Investment Officer at Insync Funds Management; and
Chad Hitzeman is Head of Institutional Sales at Global X.
They were part of an IMAP webinar panel discussion on ‘Portfolio opportunities from Asian investment’.
The session was moderated by Nathan Lim — Chief Investment Officer and Executive Director at Lonsec Investment Solutions.