Emerging markets: Capital Group’s gold medal fund

When Jeremy Grantham issued one of his most strident bubble warnings earlier this year he attached to it a couple of ideas on how to play the situation. One was to consider value stocks, the other was to keep an eye on emerging markets.

“Emerging market equities are at one of their three, more or less co-equal, relative lows against the US of the last 50 years,” the co-founder of GMO wrote in his January newsletter, which caught the market’s attention with its warning of what he sees as a “fully fledged epic bubble”.

Grantham’s advice was to steer away from growth stocks and investigate emerging markets and value stocks.

“Not surprisingly, we believe it is in the overlap of these two ideas, Value and Emerging, that your relative bets should go, along with the greatest avoidance of US Growth stocks that your career and business risk will allow. Good luck!”

A Morningstar gold-medal option with exposure to Emerging Markets is the Capital Group New World (AU) fund.

It carries a relatively low fee and since becoming available to Australian investors in 2017 has returned 14.37 per cent versus 12 per cent for the category index it mirrors, the MSCI Emerging Markets Index.

During the pandemic, the strategy did relatively well, says Morningstar senior analyst Christopher Franz. It lost less than the index when emerging markets faltered during the covid panic in the first quarter of 2020 and held ground during the subsequent rally, ending the year up over 13 per cent and landing in the emerging markets Morningstar Category’s top decile.

Capital Group New World fund (AU) - Growth of $10k since inception

Source: Morningstar Premium; data as at 9 March 2021

With $43.5 million under management, its regional exposure breakdown is as follows: 44.2 per cent Asia & Australia; 34.6 per cent Americas; 21.3 per cent Europe & Africa.

The top five sectors in which it invests are: Information Technology (18 per cent); Consumer discretionary (14 per cent); Healthcare (13 per cent); Financials (11.4 per cent); and Communications Services (8.7 per cent).

As of the end of February the fund’s top 10 holdings were:

• Microsoft (software)
• MercadoLibre (internet retail)
• Tencent (internet content & information)
• Taiwan Semiconductor (semiconductors)
• Kweichow Moutai Co (beverages - wineries & distilleries
• Reliance Industries (oil and gas refining & marketing)
• Kotak Mahindra Bank (banks - regional)
• Alibaba Group (internet retail)
• Zai Lab (biotechnology)
• AIA Group (insurance - life)

Franz says Capital Group New World’s specialised emerging-markets approach benefits its skilled managers, making the multifaceted strategy his top pick in this sector.

The fund is overseen by Nicholas J. Grace, Bradford F. Freer, and Jonathan Knowles, who between them have more than 90 years’ investing experience.

“The team believes while emerging markets are growing faster than developed markets, emerging-markets-domiciled firms aren't the only way to capitalise on that growth,” Franz says.

“In some cases, the fund's developed-markets holdings, which must derive at least 20 per cent of their revenue or profits from emerging markets, may be better positioned. Capital Group’s multimanager system lets the fund's 10 managers play to their strengths.

“Each manager independently runs a sleeve of the portfolio, which helps to enhance diversification and further mute overall volatility.”

Capital Group takes a relatively low-risk approach to investing in emerging markets. Rather than being a pure play on emerging markets equity, it often keeps more than a third of its assets invested in developed-markets stocks (excluding South Korea and Taiwan) and between 5 and 15 per cent in emerging-markets debt.

The fund’s fee is 1.18 per cent, which puts it in the middle quintile of the relevant Morningstar quintile.  That’s not great, Franz says, but considering its other strengths, he thinks this share class will still be able to deliver positive alpha relative to the category benchmark index.