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EXCLUSIVE INTERVIEW: Now Is The Time To Invest In Emerging Markets - UK's SKAGEN

Stephen Little

7 October 2013

Not too long ago, with their superior economic growth, favorable demographics and rapid industrialization, emerging markets were seen as a no-brainer for investors looking to improve their portfolios.

However, in the past year, some analysts have argued the story appears to be changing. Earlier last month, the International Monetary Fund said that it sees the dynamics of global growth shifting away from emerging markets and noted that “momentum is projected to come mainly from advanced economies, where output is expected to accelerate.”

Growth in the Chinese and Indian economies has slowed and Thailand has fallen back into recession. Between March and September this year, the MSCI Emerging Market Index fell 12.6 per cent from 1,053.89 to 920.84, although it has since recovered some ground to end September on 996.34.

While the US Federal Reserve's decision last month to maintain its monetary stimulus has sparked a rally in emerging markets, many experts believe this growth will only last until the inevitable tapering begins next year.

Despite the freefall in emerging markets this year, Norway's believes there are significant opportunities for long-term investors to benefit from exceptionally low valuations in emerging market stocks, resulting from recent changes in the macroeconomic climate, Tim Gordon, UK client relations at SKAGEN, told this publication in a recent interview.

"As a result of negative sentiment, valuations on some fantastic businesses are being pushed down. The fundamentals of the businesses are still very compelling; it's just that sentiment has shifted. On a medium to long-term view, we think it's a great time to invest in global emerging markets," said Gordon.

SKAGEN established itself in the UK institutional and wealth management markets four years ago. With a team of nine based at its London office, the firm currently has £1.2 billion ($1.92 billion) of UK assets under management. Earlier this year, it extended its offering to the wholesale and retail audience, marketing its funds through the Transact and Raymond James’ platforms.

SKAGEN invests in companies that are typically at a low price and are characterized by being undervalued, under-researched and unpopular.

The firm's two largest funds have consistently performed above the benchmark over the past 10 years.

With £5.5 billion in assets under management, the Kon-Tiki fund aims to invest at least 50 per cent of its assets in emerging markets and the remainder in developed market equities with emerging markets exposure.

In the past ten years the Kon-Tiki fund has generated a 20.4 per cent return on an annualized basis, outperforming the MSCI EM Index's 12.4 per cent by quite a margin.

The £5.2 billion Global fund, invested in global equities, has made 17.1 per cent since its inception in 1997 and 11.4 per cent over the last three years. Over the last 10 years it has outperformed the MSCI AC Index by 7.8 per cent.

Slump is only short-term

Confidence in emerging markets has plummeted this year amid worries about the US Federal Reserve tapering its quantitative easing program, economic slowdown in China and the slide of the Indian rupee.

The Organization for Economic Co-operation and Development recently said that growth had slowed in some of the large emerging economies as a result of the rise in global bond yields, triggered in part by an expected scaling back of quantitative easing by the US Federal Reserve, which has fueled market instability, capital outflows and currency depreciations.

Tim Heffer, UK client relations at SKAGEN, said that despite increased concerns about the slowdown in emerging markets, this was not part of a long-term trend.

"There are significant issues a number of economies are facing, but it is not the end of the emerging markets story. They will recover - it is just whether it is in the short-term or the long-term. If you look at many emerging markets, growth is still strong, but just not as fast as it previously has been in some regions," said Heffer.

Another Asian crisis?

While the emerging market slow down and prospect of US tapering its quantitative easing have stirred memories of the Asian financial crisis in the late 1990s, many experts believe another collapse is unlikely.

Since the financial turmoil, most Asian countries affected by the crisis have built up larger foreign exchange reserves which should prevent currencies from speculative attack in the future and current account positions are now mostly in surplus. Extensive financial reforms have also taken place and banking systems now appear more robust.

Heffer doubts that there is another financial storm on the horizon and believes that emerging market nations are now better equipped to cope with challenges than they used to be.

"We are not really concerned about the downturn in emerging markets having a similar impact to the Asian crisis in 1998 as their economies are far more stable and governments are far better equipped to cope," said Heffer.

Frontier markets

Many investors who are not content with the opportunities in emerging markets are increasingly turning to frontier markets, which include countries in the early stages of economic development, such as Kenya, Bangladesh, Nigeria and Pakistan.

While smaller and less liquid than more advanced emerging markets, many are experiencing rapid growth.

In terms of market returns, frontier equities have proved to be far more resilient than their emerging market counterparts. According to the MSCI Index, frontier markets are up 13.82 per cent for the year to October 1, compared to emerging markets, which are down 5.58 per cent over the same period.

Heffer said that SKAGEN was increasingly looking to invest in frontier markets due to their long-term growth potential.

"Returning to the Kon-Tiki mandate, one of the freedoms we have is investing in frontier companies. While frontier markets are smaller and less liquid than emerging markets, they provide lots of exciting opportunities long-term. Africa has some of the fastest growing economies and we have identified some excellent companies in this region that we expect to show strong growth over the medium to long-term horizon," said Heffer.

The future

Gordon says that the long-term goal of SKAGEN over the next five years is to build a UK business which has three distinctive parts to it, focusing on institutional investors, wholesale platforms, IFAs and wealth managers, and global private banks and family offices.

"If we achieve this, then we feel that we will have an extremely stable asset base," said Gordon.

He went on to explain how the SKAGEN is taking "small but deliberate steps" as it looks to expand throughout the UK.

"The next stage we are looking for a regional sales capacity in the north of the country, once the distribution has been finalized and the platforms are on board, which may take another 12 months," said Gordon.

"We are quite aware that a lot of the market is having to look at replacements for the Aberdeen and First State funds, which have been the two major funds which have dominated the emerging market space in recent years. One of the core focuses of our strategy over the next 12 to 18 months is making investors aware that SKAGEN Funds is one of the leading value emerging markets managers," said Gordon.

Click here to view a recent article about how high net worth private investors, with the capital and appetite for new ventures, are the most enthusiastic backers of frontier market funds, according to new research from Cerulli Associates.