Templeton Emerging Markets Investment Trust – added to the Preferred List

Emerging markets exposure has taken the back seat for some investors, but they are a vital component of any long-term growth portfolio.

| 7 min read

With the dominance of the US market in recent years, emerging markets exposure has taken the back seat for some investors. Yet they are a vital component of any long-term growth portfolio owing to the remarkable structural trends taking place.

The growing middle class in emerging markets is expected to have surpassed 2.3bn in 2020 and their increased prosperity is driving spending. HSBC estimates that total household wealth in China will grow by more than 50% in the next five years.

Exports are still important, but growth is increasingly driven by the consumer and intra-emerging market trade. Smartphone sales in emerging markets are 3 times that of developed markets and China alone accounts for more internet users that the US, UK Germany, France and Japan combined. Many of the world’s most innovative companies also reside in the developed world, evidenced by the fact that it accounts for more than half the world’s patent applications.

Investor hesitance

Despite these exciting dynamics, just 11% of UK consumers invest in emerging markets, in contrast to as much as 93% using a product or service from these markets daily, according to research conducted by the Templeton Emerging Markets Investment Trust. The research found that 27.3 million people in the UK own a TV produced by South Korea’s Samsung, while a quarter have a product made by Turkish company Beko.

Chetan Sehgal, lead portfolio manager at the Trust points out, "Emerging markets are more familiar to us than we think” but that those same consumers are hesitant to invest in emerging markets due to the perceived risks, thereby missing out on long term growth potential from innovative, high technology companies and strong consumption patterns.

There can be, however, additional risks associated with emerging markets including, in some cases, less political and economic stability as well as inferior accountancy or governance standards among companies. Recent developments in China, where the government is cracking down on anti-competitive practices by the big internet and e-commerce platforms, is a reminder of the regulatory or political headwinds that can crop up.

Templeton Emerging Markets - core exposure for the asset class

At £2.6bn, Templeton Emerging Markets is the largest emerging markets investment trust by some distance and has a long history. Launched in 1989, it was once managed by the emerging markets pioneer Mark Mobius and is now managed by Chetan Sehgal and Andrew Ness alongside a team with considerable industry experience. Well diversified by country and sector, it is an option for ‘core’ emerging market exposure.

Under Chetan Seghal, who took the helm in 2018, the portfolio has become more diversified, owning 70-100 individual companies, compared to around 50 previously, but annual turnover (the rate of buying and selling across the portfolio) remains low at 20% in line with their long term investment horizon.

The managers believe their long-term view allows them to look beyond short-term news, noise, and emotion and identify emerging markets companies whose prospects in terms of future earnings power are not fully understood by the market and thus not accurately captured in their current valuations. The focus is on a horizon of 3-5 years when evaluating businesses and management teams, and less stable companies with high levels of borrowing are deliberately avoided.

Long-term themes across the portfolio are ‘premium’ consumer goods, digitalisation, healthcare and technology. The trust is also very much focused on the ‘big getting bigger’, evidenced by the top ten holdings in ‘mega-caps’ including Taiwan Semiconductor, Tencent and Samsung. The Trust can hold these names to in excess of 10%, but no more than 12%, meaning they can represent a large chunk of the portfolio and are a key risk.

The managers are also prepared to hold positions that aren’t in the MSCI Emerging Markets Index, including companies in developed markets that have a large emerging markets footprint. A recent development is the Trust’s ability to hold private assets – not listed on any stock market – to the value of 10% of the portfolio, though the managers do not expect to approach this level for some time. This twinned with an increased ability to ‘gear’, or borrow to invest, up to 20% (previously 10%) means the trust offers greater potential for outperformance than previously, but that it comes with greater risks.

Recent performance and activity

The Trust enjoyed an impressive rebound in relative performance over the past year, despite not necessarily being an investment that we expect to outperform a strongly rising market. However, good stock selection and a chunky allocations to some winning index heavyweights worked well. The trust has participated fully in TSMC and Samsung in particular, and to a lesser extent Tencent and Alibaba, though those holding have weighed on returns more recently.

After enduring a tough pandemic-induced selloff in the first quarter of 2020. The managers responded by reducing leisure exposure and adding more Korean and Chinese technology exposure, uncomfortable moves at the time but ones that have enhanced performance since.

The team see opportunities in backing talented entrepreneurs in non-Asian markets too and believe there will be plenty more disruption as more innovative business models take hold. In terms of listing location, the portfolio is about in line with its benchmark for Asian exposure (around 79%), and is underweight the Middle East and Africa, compensated for with extra exposure to Russia (around 7%).

Our view

Emerging markets remain a long-term growth story but there are likely to be lots of bumps along the way. This is particularly the case with the unpredictability of Covid effects and China’s apparent wish to rein in some of its larger tech companies. Nonetheless, we believe they should represent an important strand of a growth portfolio.

This Trust is a worthy consideration for exposure to the asset class owing to the breadth and experience of the management and analyst team and the higher-conviction approach it has now adopted. We welcome the willingness to invest in private opportunities, and the measured fashion in which this is being done. The team has already had some success in pre-IPO opportunities, and we think this is a potentially attractive expansion of their investment universe. It’s also a key differentiator versus open-ended funds and some of their closed-ended peers.

We have therefore taken the decision to add the Trust to the Direct Investment Service Preferred List our curated list of investments for new investment in their respective sectors. The discount to net asset value of shares at the time of writing (8%) is not significantly out of kilter with its peers or with its own historic levels but does offer value versus a similar portfolio in an open-ended equivalent fund.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

Templeton Emerging Markets Investment Trust – added to the Preferred List

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