The manager of the Murray International IT (pictured) believes that emerging markets equity is the one area of value at the moment, but says that he is struggling to find compelling opportunities elsewhere.“It’s harder now than in 2007,” he said.
“It was exactly the same with valuations [in developed market equities] back then, but you could hide in gilts that were yielding 5 per cent. You can’t do that now.”
“I had 27 per cent in bonds at that point, but I have very little now because of where yields are. It’s tough.”
Stout says that the US equity market looks particularly toppy, hitting out at company chief executives for buying back stock and artificially inflating profit growth and share prices.
“[Company] managers are saying they are doing it because it enhances shareholder value. They’re saying the stocks are undervalued, but what they’re actually doing is driving up the valuation. It’s the equivalent of Murray International IT buying back stock when it’s on a discount.”
“It’s a sign of short-termism. Companies clearly have no confidence in reinvesting in their business as the outlook for economies is opaque. Long-term, this isn’t sustainable.”
This point is backed up by Devan Kaloo, head of emerging market equities at Aberdeen, who says that the major driver of increased profit margins in the developed world versus the emerging markets is US buybacks which artificially inflate earnings per share by reducing the number of shares.
Stout adds that chief executives are rewarded when earnings per share hit certain levels, again putting into question their motives for buying back stock rather than reinvesting in their business or distributing dividends.
The trust currently has just 7.2 per cent in bonds, with the rest in equities.
While Stout is currently wary of valuations, he has next to nothing in cash, insisting he can find enough opportunities thanks to his global mandate.
“There’s negative real return on savings, so I don’t want to be there,” he said.
“If you can’t find 50 stocks across the world then there is something wrong. I wouldn’t want to be a US manager though.”
The S&P 500 has rallied 33.56 per cent over three years and has doubled since the depths of the financial crisis in March 2009.
The FTSE All Share isn’t far behind, with strong showings also from Japan and Europe.
Performance of indices over 2yrs
Source: FE Analytics
Stout thinks that the lack of real earnings growth – excluding the impact of share buybacks – in not only the US but the UK, Europe and even Japan in 2013 means that growth this year will have to be unrealistically high.
While the manager doesn’t believe the likes of Europe will achieve 25 per cent earnings growth in 2014, he says that doesn’t necessarily mean the market will correct.
However, he insists his priority is protecting his investors from permanent loss and is therefore treading carefully when it comes to developed markets.
The one major area of weakness in recent years has been emerging markets, with the MSCI Emerging Markets index down almost 10 per cent over a three-year period.
Stout thinks that the negative sentiment towards countries such as Brazil and China has gone too far, and is also finding attractive opportunities in developed market stocks which derive their earnings from emerging markets.
“The best opportunities arise when emotions get involved,” he said.
“I’ve been in the industry for 28 years, and can remember being a deputy manager on Murray International in 1999. The world was dominated by tech, and all we were ever asked was how much we had in it.”
“Why would we have anything in tech? It doesn’t yield anything.”
While not as extreme, Stout says the negative sentiment towards emerging markets is another example of investors putting emotions before fundamentals.
Asia Pacific is currently his biggest regional allocation at 21.9 per cent, with other emerging markets including those in Latin America accounting for 19.8 per cent.
Europe ex UK is the trust’s biggest developed market position at 18.2 per cent, followed by the UK and US at 14 per cent apiece.
Murray International has recently increased its allocation to Brazil indirectly through French retailer Casino on the back of weakness. Stout describes it as having the best dividend culture of any emerging market.
As well as being cheap, Stout says he expects the bulk of earnings and dividend growth to come from emerging markets this year.
Performance of trust and index since Jan 2013
Source: FE Analytics
The large emerging markets content and underweights in the US and Japan weighed heavily on performance last year on a relative basis, with the trust returning just over 4 per cent.
This was the first time Stout underperformed his composite benchmark – split 60/40 between the FTSE World ex UK and FTSE World UK indices – over a calendar year for more than a decade.
Stout’s overweight in emerging markets has also hit the trust hard so far this year, with FE data showing it is already down 5.8 per cent in 2014.
Needless to say, the trust’s record over the longer term is much stronger, with no IT Global Equity Income trust returning more over the last decade.
Performance of trust, sector and index over 10yrs
Source: FE Analytics
Murray acknowledges that emerging markets could continue to come under pressure in the near-term, but he says that company fundamentals should see his trust through.
“Being able to grow dividends and earnings is the only way to sustainably support a share price,” he said.
“Latin America was down last year and yet our portfolio of Mexican companies made 10 per cent. It was also down the year before, and we made 24 per cent.”
Murray International IT has ongoing charges of 0.71 per cent, excluding performance fee.
It is currently yielding 4.28 per cent and is on a premium of 6 per cent.
