Beschloss: Emerging Markets have Diverged from Each Other

You know emerging market investing better than most. Give us your sense of where that is right now because all we hear about is it’s all about the United States invest the United States, the strength of the US dollar. Great to be with you David. And of course, as our letter said recently that US exceptionalism or US dynamic investment theme is still going very, very strong. And that’s really for no reason except we have great innovation in the US We have great technology, AI and then of course rule of law when it comes to financial markets, emerging markets where I have been investing for a long time, but I have worked in also during my days at the World Bank, I think are going through a phase where maybe we shouldn’t even be using the term emerging markets because they’ve diverged from each other so much. Obviously, the big elephant in the room is always China and that used to account for 40% of the EM equity indices. Today it is accounting for only 25%. But what you’re seeing through the same themes of American growth in our economy and growth in our equity markets and this sort of term exceptionalism, if you want to call it that, is also impactful in emerging markets. If you go to Korea and Taiwan, which now account for 30% of emerging markets, they have done very well. If you look at Taiwan, whether you look at one year, three-year, five years, 10 years, 20 years, it’s always been very competitive with the US But why? Because the goods that Taiwan has been producing mainly microchips have been something that has been very much part of this theme of innovation. If you go to India in the last five years, 10 years, similarly the economy has done relatively well. Obviously we had elections there recently, but the the markets continue to do very, very well and sort of run between 9:00 to 11:00 percent depending on which periods you are thinking about. And now with French shoring which is definitely impacting India positively and other countries like Mexico positively where our terms of trade with Mexico have changed. And Mexico of course is also benefiting from FDI for this French shoring as well as remittances from from abroad. You see very different kinds of markets in the last few years in Mexico. So I think when you put emerging markets as one term and generalize, it hides the goods, the ugly and in between. And I think where things have not gone so well in emerging markets is where for example, the continent of Africa where we hoped for much bigger growth parts of Latin America that are not necessarily commodity rich or or very close to the US in terms of French shoring that have not benefited for from these from these kinds of themes. And those countries have been left behind especially since COVID and dragged down the markets together with China and dragged down dragged down growth in these countries and and the potential for their populations. So, So that was a terrific laying out of the alternatives. If I can sort of simplify it a little bit, if this were a horse race, we’ve got some steady ones that have been investments destinations for some time such as South Korea, such as Japan, such as Taiwan. You have India, which it sounds like it’s sort of an up and Comer as it were and and perhaps Mexico as well. Where would you rate this in the horse race in terms of the change in position, which ones are coming up the fastest? Well, I think I think definitely India is coming up the fastest. But also let’s not forget, if you looked at India the last 10 years, the returns were really, really strong as well. Taiwan is the big question mark given the geopolitics and it’s very, very rough location in the world being right next to China and if and when there could be a military threat there. And what is going on Despite that is, is the fact that their companies are doing well by by producing in Taiwan, but also now investing in the US and other locations to produce microchips. Obviously, they have not been as fast and as as efficient as they would have liked outside of Taiwan. But I think that’s a trend where we might see these Taiwanese companies continue to do well, but maybe not in Taiwan, as I talk about the role of currency in all of this because obviously those are investments in different currencies. As I understand it right now, the Fed has been pretty dominant in terms of them setting rate policy and that sort of determines the strength of the dollar. But when you talk about other currencies, when you invest in a place like India, for example, or in Mexico, how do you account for currency volatility? Do you hedge against that and how expensive is that? So two or three things obviously with the the really strong policies that Chairman Paul has had in the US our our economy has done well, but also our currency has stayed very strong. The interesting thing as you said is our currency has stayed quite strong relative to other DM currencies we saw with the devaluation of yen and and what the the interventions in the recent weeks in Japan still dealing with the weaker yen than than the Japanese government would like. Europe obviously is, is also going through its own relative really rough patches because growth has not taken up, has not gone up as much as they would have liked to. The emerging markets have been a really interesting spot. I think one thing that has happened in the last few years is that the quality of your central bankers has increased, has improved a lot in emerging markets. So you do have really good people running them and you may remember before you know in the beginning of the rate increases they were maybe earlier than US in the US to increase rates when they’re more used to having these terrible inflationary periods. So when they saw inflation come the increased rates earlier. And and so when we look at their currencies, it is also a tale of two cities where you see for example relatively relatively I should say stronger currencies again in places like India, places like Mexico, places like even China has had you know again depending on what which side of the of the ocean you’re looking at. But but then you have other countries that have have not benefited except for maybe some commodity rich countries around emerging markets despite the now two things about the currency factor, the currencies are stronger that impacts more the bond markets. So you have seen bond markets in emerging markets over the last 10 years. The size has increased hugely both local bond markets where local market local people invest as well as foreign markets. The the emerging markets indices are close to not 3 trillion or thereabouts. So, so the size of these markets have increased and people do look at currency very much when they look at them, look at them, the bond markets, on the equity markets, currency has not necessarily moved the needle too much except you could argue with outflows for emerging markets. Sometimes when their own currency is stronger relative to the dollars, you see more of an outflow. And last point I want to make on that is on in China where there has been very big outflows and people have maxed out to the amount they could to bring savings outside of China. So do you spend the money to hedge when you invest in emerging markets? Oh, sorry, I did not answer. The hedge hedging is extremely expensive in emerging markets. Yes, except for the much larger, much larger countries. Even there the relative cost of hedging generally means that you don’t hedge too much. So the cost, yes, generally makes it prohibitive to go into these currencies. And if the market returns had been so much higher than what what has actually transpired, maybe you would have, you would have been OK with the cost of hedging. But given given that their markets in general have been, if you look at emerging markets as a totality and you look at the returns let’s say over the last 10 years and you are just up a few percent, that definitely does not cover cost of currency hedging.