Quality companies will tough out EMs climate: Stewart Investors

Companies with resilient business models, strong cash flows and conservative approaches to debt will tough out the current emerging markets (EMs) climate, according to Jack Nelson, portfolio manager of Stewart Investors’ Global Emerging Markets Sustainability fund.

Nelson said stability in EMs during volatile times was unlikely to be found in companies which rose the fastest in the bull market, and now constituted the largest benchmark weightings.

“We own none of the top 10 of the MSCI EM index,” said Nelson. “We have $0 invested in Russia, and less than two per cent of the fund in China. We rule out over 80 of the largest 100 companies in India because they are not sufficiently high quality for us to allocate clients’ capital to them.”

Nelson said Stewart Investors chose to ignore the index as it’s the best way to outperform it over the long term and found that the companies that had fallen during this volatile period were those with weak business models or quality of earnings models.

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He also warned against passive investing as ETFs would become increasingly vulnerable.

“As stocks fall, the ETFs are forced to sell, driving the stock down further and creating the vicious version of the virtuous cycle which has driven the performance of the largest benchmark constituents for the last while.”

Preserving capital remained the investment team’s top priority and given the US has engaged in a rate-hiking cycle and currency weakness was widespread across EMs, the team has positioned their portfolio with a high cash balances and large exposures to net cash companies.

“Consumer staples and IT services companies, which earn hard currency revenues, continue to be core holdings,” said Nelson.

Nelson said long-term performance relied on capital preservation in down-markets, and high-quality companies with good corporate governance and good decision-making capabilities would help find stability in volatile times.