Seafarer addresses key questions about emerging markets investing and how U.S. investors can integrate the asset class into long-term portfolios.
What role can emerging markets play in U.S. investors’ asset allocations?
The emerging markets asset class can serve two useful roles in a long-term investor’s portfolio:
- Emerging markets offer a prospective source of diversified growth within a long-term investor’s portfolio. During much of the last 15 years, the concept of decoupling was in vogue for the emerging market asset class, but was overstated and misapplied. However, Seafarer believes that two recent structural changes – reduced reliance on exports and independent monetary policy – might finally allow the markets to decouple from the developed world. Decoupling is now relevant, for the first time.
- A high-quality, income-producing portfolio of emerging market securities (dividend-paying stocks and bonds) can act as a useful source of diversification (or hedge) against the U.S. dollar. Seafarer believes that long-term investors should seek exposure to productive assets with meaningful growth potential, and that are capable of generating income in currencies other than the U.S. dollar.
How should long-term investors integrate the emerging markets asset class into their portfolios?
The emerging markets are likely to remain volatile for the foreseeable future. Risk appetite must dominate any consideration of the asset class. Seafarer believes that investors should consider two key factors:
- Long-term time horizons are essential. Given the volatility of the asset class, due especially to heightened currency risk, Seafarer suggests that investors adopt a minimum investment horizon of five years.
- Investors should manage U.S. dollar versus non-U.S. dollar exposures in their portfolios. Rather than initially allocating capital among traditional “asset classes” (e.g., domestic stocks, foreign stocks, bonds, real estate), Seafarer believes investors should measure the portion of their assets that are principally denominated in U.S. dollars versus those assets that are not. After matching U.S. dollar assets against U.S. dollar liabilities, a portion of the surplus capital (e.g., 10% to 30%) can be allocated to the emerging markets.
How does Seafarer discover value amid currently challenging global investment conditions?
- In the fourth quarter 2021 portfolio review for the Seafarer Overseas Value Fund, Paul Espinosa explains how the Value team seeks to generate a return by aggregating sources of profit specific to each portfolio holding.
- In the commentary How the Value Team Finds “Gems” in Emerging Markets, Paul Espinosa describes four company attributes that guide the Value team’s search for “Gems”: ROE-COE spread,1 resilience across the company life cycle, global validation, and a valuation consistent with the minimum rate of return.
Do the recent heavy-handed government interventions in private businesses in China represent a new risk for foreign investors?
- In a Prevailing Winds blog post, China’s Complicated Relationship with the Private Sector, Nicholas Borst reviews the complicated and often contentious relationship between the Chinese government and the private sector. He concludes that an investment approach that searches for companies with good core businesses that can likely succeed in a variety of environments is a stronger foundation than trying to read the tea leaves of Beijing’s intentions.
- This approach has been a hallmark of Seafarer’s investment process over the past decade. In the second quarter 2017 portfolio review for the Seafarer Overseas Growth and Income Fund, Andrew Foster writes that control party analysis suggests that Chinese internet companies are under the sway of the government, and the government’s intrusion will hamper their long-term growth prospects.
- The views and information discussed in this commentary are as of the date of publication, are subject to change, and may not reflect Seafarer’s current views. The views expressed represent an assessment of market conditions at a specific point in time, are opinions only and should not be relied upon as investment advice regarding a particular investment or markets in general. Such information does not constitute a recommendation to buy or sell specific securities or investment vehicles. It should not be assumed that any investment will be profitable or will equal the performance of the portfolios or any securities or any sectors mentioned herein. The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation. Seafarer does not accept any liability for losses either direct or consequential caused by the use of this information.
- a return on equity significantly higher than the cost of equity throughout most of the economic cycle.