However, Value investing in EM is very different from Value investing in developed markets. Being cheap alone is not enough. For example, many Value investors in developed markets will focus on buying “falling star” companies, average down the cost, and then wait for a catalyst to trigger mean reversion.
We do not wait for mean reversion, instead we seek to actively get ahead of fundamental changes. Cheap stocks can stay cheap for a very long time in EM due to opaque ownership structures, weaker governance and a prevalence of family and state-owned companies, among other factors. There are also very few takeover stories or leveraged buyouts, meaning there are limited opportunities to buy companies at genuinely cheap Price/Earnings or Price/Book ratios and simply wait for them to pay off.
In addition to cheap valuations, another trap for many investors in EM can be controversial areas of the market. A lot of people are talking about Argentina and Turkey in emerging markets today. Both countries have sold off significantly this year, down over 50% and over 40% respectively. Are they our type of idea? No, because they’re controversial. Instead, we like to work in countries, sectors, stocks that no one is talking about, where the downside risk tends to be more limited versus controversial stocks. We focus our research efforts on identifying good quality companies that have been forgotten by investors and that have a solid potential for re-rating, or an expansion in valuations.
Given many investors continue to focus on quality-growth names and neglect the many misunderstood and undervalued companies in the EM space, we believe EM remains a fertile hunting ground for Value opportunities.
