The rotation into value stocks was one of the big investment themes in 2016, in what was a challenging year for investors.
Indeed, many fund managers were caught out by the shift away from growth as value stocks found favour in an economic backdrop supportive of the style.
However, while the style shift could be seen in developed markets, it was also witnessed in the emerging markets space.
As the below chart shows, the value style has only outperformed growth in three of the past 10 calendar years, as reflected in the MSCI Emerging Markets style indices.
Performance of investment style in emerging markets over 10yrs
Source: FE Analytics
During 2016, like other markets around the world, value was the best performer in emerging markets after generating a total return of 37.06 per cent, compared with a 28.34 per cent gain for the growth index.
In 2017, however, the growth style has once again returned to favour with the MSCI Emerging Markets Growth index returning 30.11 per cent (in sterling terms), compared with a 12.18 per cent rise in the MSCI Emerging Markets Value index for the first 11 months of the year.
In a recent white paper, Laurence Bensafi, deputy head of emerging markets equity at RBC Global Asset Management, noted that 45 per cent of assets are invested in quality style, while growth accounts for a further 17 per cent. Just 15 per cent of assets are invested in assets with a value bias.
This compares with the global equities universe where investment styles are more equally balanced between the value and growth styles.
Bensafi further noted that rotation between the two styles is less prevalent given the consistent and strong performance of the growth style.
Value, meanwhile, has exhibited more volatile performance on both an absolute and relative basis, according to the white paper.
“The magnitude of the outperformance of emerging market value during 2016 has rarely occurred in the last two decades,” wrote Bensafi.
“Where this has occurred, the outperformance rarely extended into the year which followed; if it did, it was not with the same magnitude.”
Other challenges for the value style include the prevalence of state-owned enterprises in the sector and the need for a contrarian mind-set, which can be challenging in emerging markets where price momentum is powerful.
Nevertheless, the investment style can work in emerging markets. While the value index has produced a lower return over 10 years – 61.86 per cent to the 85.81 per cent for the growth index – it has done so with a lower maximum drawdown (measuring the most money lost if bought and sold at the worst possible times).
“Ultimately, we argue that emerging market equities are an inefficient asset class allowing astute investors to outperform the benchmark over time,” said Bensafi.
“As an overlooked segment of the market, we believe that the potential for alpha in the value segment is even larger.
“Investors need to be prudent when identifying select value opportunities with catalysts for re-rating and as a result avoid ‘value traps’.”
Given the style’s underperformance this year, below we consider three value funds in the IA Global Emerging Markets sector that have outperformed the broad MSCI Emerging Markets index in 2017.
UBS Global Emerging Markets Equity
First on the list of value-oriented funds that have outperformed the index is the five FE Crown-rated UBS Global Emerging Markets Equity fund, overseen by Urs Antonioli.
The £736.6m fund has risen by 26.88 per cent in 2017 (to 30 November), compared with a 20.97 per cent MSCI Emerging Markets index.
Performance of fund vs index in 2017
Source: FE Analytics
It should be noted, however, that this fund is benchmarked against the FTSE All World Emerging Market index, which has returned 16.22 per cent over the same period.
Under Antonioli, the fund targets long-term capital growth through actively managed and diversified portfolio.
“The emerging market equities recovery that began in 2016 has continued its strong run year-to-date,” the manager noted in its most recent fund factsheet.
“While valuations have re-rated somewhat, they remain attractive relative to developed markets.
“We believe the upcycle for emerging markets will continue over the next few years, which looks set to highlight the changing face of emerging markets.
“Emerging market equities are increasingly a domestic play, fuelled by secular growth sectors like internet and consumption, away from highly cyclical industries.”
The fund has an ongoing charges figure (OCF) of 0.99 per cent.
Investec Emerging Markets Equity
Next on the list is the three crown-rated Investec Emerging Markets Equity fund, managed by Archie Hart since 2012. It has risen by 25.68 per cent in 2017.
The £161.9m fund employs the proprietary 4Factor Equities team approach, which focuses on companies it believes are high quality, attractively valued, improving their operating performance and receiving increasing investor attention.
In the fund’s most recent commentary, the managers noted that it continues to focus on fundamentals.
“Emerging market returns-on-equity and operating margin metrics, which have been at a discount to developed markets over the past 20 years, have now almost entirely converged,” they said.
“Despite this, valuation spreads between the asset classes have not. The emerging markets ‘discount’ becomes more powerful when looking at emerging market corporate earnings.
“After six years of revenues and earnings falling short of expectations, the last three quarters have been consecutive beats.”
It has an OCF of 1.12 per cent.
Lazard Emerging Markets Core Equity
The final offering is the $74.2m Lazard Emerging Markets Core Equity fund. The four crown-rated strategy has risen by 23.64 per cent during the period under review.
Managed by Stephen Russell, the offshore fund seeks out stocks trading at a discount to its fair value estimates.
Performance of fund vs sector in 2017
Source: FE Analytics
The portfolio is made up of 70-100 names constructed and seeks a favourable balance of return and risk with the aim of beating the MSCI Emerging Markets index “in most market environments with a stable pattern of excess returns”.
“The approach is fairly conservative in its nature and looks to emphasise the team's stock picking skills rather than taking sizeable sector and country bets; deviation from the benchmark is therefore reasonably limited at both of these levels,” noted Square Mile Research analysts.
“Stock research is extensive and considers a variety of factors thereby providing the manager, Stephen Russell, with a flexible framework in which to select stocks.
“That said, valuation is an integral part of the process and Mr Russell maintains a disciplined approach to this.”
The Lazard fund has an OCF of 1.01 per cent.