Just as our daily lives have been curtailed throughout the past two years, many investors have chased the limited number of stocks that have thrived under the extreme circumstances of Covid-19.
The most exaggerated example of this has been the largest US tech stocks, whose goods and services the world has relied on more heavily than usual as the majority of communication became virtual rather than in-person, and home entertainment replaced going out. As a result, Facebook, Amazon, Apple, Netflix and Google (owned by Alphabet) – aka the ‘Faang’ stocks – witnessed their share prices rocketing during lockdown and helped drive US markets higher.
As the world’s ability to move more freely grows, employees increasingly return to the office and life returns to normal, however, this extreme polarisation in markets should dissipate, which would lead to a wider opportunity set for investors.
Unlocked potential
This broadening-out looks set to happen on a market-capitalisation basis, with investors increasingly seeking out mid and small-cap companies due to their cheaper valuations as a result of the recent correction – with the gap being accentuated by the deluge of passive money flowing into the biggest stocks held in the major indices.
That said, perhaps the more significant and compelling shift will be geographic, thanks to individual economies opening up and the global supply chain easing. This will bolster export-focused nations and alleviate inflationary pressures in countries where supply bottlenecks have pushed prices up.
One nation that seems particularly intriguing in this context is Japan, which is particularly correlated to global growth – meaning its exporters should benefit from more fluid international trade, with global profits bolstered yet further when translated back into the weaker yen. And with the nation more broadly relinquishing its coronavirus restrictions, its tourism industry – the world’s third largest at some $359bn (£263bn) – should flourish too, with many travellers benefiting from the currency exchange.
These trends are also likely to play out in other areas of the world, and lead to improved performance – on a relative basis – in areas such as Europe.
Emerging digital trends
For true alpha, though, investors need to dig deeper. That is why, beyond these broad macroeconomic themes, there are some tectonic trends investors should be looking to harness and exploit for the long-term.
One of these is the notion of emerging markets ‘going digital’ – a far more systemic change than simply more people having a mobile phone or an Instagram account. This is about a fundamental shift in the make-up of the economy.
Essentially, investors can expect several emerging market nations to follow the same path China has already taken. Just a decade ago, the MSCI China index was skewed towards the old economy, with energy and financials being large constituents – yet now the likes of Tencent and Alibaba make up more than 22% of the entire index alone, while no energy or financials stocks feature in the top 10.
Exploiting change
Some strong growth, particularly in fintech, can already be observed in countries such as Brazil, India and Mexico and, when these start to populate the emerging market indices, a major transition will likely occur.
Consumer-focused growth companies and healthcare firms would become more prominent and turn emerging markets into areas where it will be possible to gain exposure to core, secular trends, rather than them being the home of uninvestible, highly cyclical, unsustainable firms.
Latin America’s largest financial technology bank, Brazil-based Nubank, characterises this shift. The firm hit a $52bn market capitalisation after its shares spiked 25% on its opening day on the New York Stock Exchange in December, making it Brazil’s third most valuable company. This size suggests it will not be long until its value eclipses one of the companies most synonymous with Brazil – the nearly 70-year-old energy firm Petrobras ($80bn market cap) and replaces it in broader emerging market indices.
In India, too, there have been several notable IPOs in the past six months or so, and the pipeline of further new listings is robust, which suggests these companies will displace the incumbents and become a substantial part of various indices.
Targeting opportunities
Targeting opportunities in these markets makes even more sense in the light of a mounting trend by asset allocators to split their exposure between China and the rest of the emerging markets, so that the former no longer dilutes the latter
As such, for our part, we are sifting through IPOs across the emerging world in particular, trying to identify the businesses we believe will be dominant in the next decade. These are fast-growing firms and, while their valuations might be heady in some cases now, we are monitoring many opportunities to enter some of these enticing firms at attractive prices. As the world embarks on a new chapter, investors would do well to consider shifting their portfolios to take advantage.
Moz Afzal is CIO at EFGAM and lead portfolio manager on the firm’s New Capital Strategic Portfolio UCITS Fund
