The pursuit of quality companies regardless of where they may be based has seen the £1.2bn JP Morgan Emerging Markets fund move to an overweight in Chinese stocks for the first time in 20 years. 
The fund’s weighting to the world’s second largest economy has increased to 35.4 per cent compared with 29.9 per cent from the MSCI Emerging Markets benchmark index, with tech giants Tencent and Alibaba and insurer Ping An included in its top-10 holdings.
However, Leon Eidelman (pictured), co-manager of the four FE Crown-rated fund, said that the weighting is not due to a bullish outlook on Chinese equities as a whole, but simply reflects the abundance of individual opportunities in the market.
The JP Morgan manager said his investment process focuses on identifying premium-quality companies from across the emerging markets space on a bottom-up basis.
“In absolute terms, a premium company is a premium company regardless of where it may be, rather than premium for China,” he said.
“The beauty of having that in place when you start looking for businesses [in which] to invest is you do so under the guise that you don’t need to own anything.
“We’re not looking at the benchmark and working backwards, we’re starting with a blank piece of paper and building a portfolio of stocks where we have high conviction that they will be able to outperform the asset class in the future.”
Nonetheless, Eidelman said the fund has bulked up its research coverage of the Chinese ‘A’ share market more recently.
Performance of index over 5yrs
Source: FE Analytics
“The attractiveness of China A is that you have a market that is much more diverse than what you have with the Hong Kong market,” he explained.
“With the exception of Tencent, the reality is that most of the Hong Kong market is China incs [companies incorporated on the mainland] and the Chinese state-owned enterprise [SOE] sector which has been opened up to minority investors.”
“My view is that the single most important driver of returns in this asset class is earnings growth so you want to own businesses where that is the goal and ultimately SOEs don’t fulfil that purpose.”
Eidelman said that if anything, the MSCI index has lagged behind the market in its approach to Chinese stocks, given its status as the second-largest market in the world, even with a greater inclusion of Chinese ‘A’ shares.
“China A has much more exposure to privately owned enterprises and sectors closer to the consumer,” he explained. “That is immediately much more attractive to us because China remains an incredibly fragmented economy where there is the opportunity to build bigger businesses over time by serving the consumer better.”
“We combine that interesting opportunity with a framework that says you’re not sacrificing on the quality side to say that you own China.
“If you can find businesses where the metrics stack up to the best businesses that you find anywhere else then you should have the confidence to go in and buy them.”
Eidelman noted that the fund’s over- and underweights typically remain static, with turnover low in the portfolio.
“From a bigger-picture perspective, we’re still pretty optimistic about where the asset class is today,” the manager added. “We’re optimistic about aggregate growth rates for economies across our asset class and especially relative to developed markets.
“Ultimately that should be the driver of underlying EPS [earnings per share] growth, which is really what we focus on at the end of the day.”
Performance of indices YTD
Source: FE Analytics
Eidelman said that while equity markets have been more muted since the start of the year with the return of volatility, the long-term case for emerging markets remains strong.
“For what it’s worth, emerging markets are actually outperforming developed markets throughout this turbulence,” he explained.
“If we look at the numbers being reported by corporates in our world and the sort of underlying earnings trends visible year-on-year or a longer-term basis, you can make a case for a visible improvement in conditions across multiple sectors and multiple countries.”
Eidelman said he expected to see a continuation of the improvement in corporate earnings growth in 2018 that has emerged from the sector in recent years.
One of the more dominant themes in emerging markets at the moment is one also observed in developed markets, said the manager – the rise of e-commerce.
“The emerging consumer is no different to the developed market consumer and ultimately there are trends in the western world that are superseded by what’s happening in the developing world in that there is an even bigger gap to fill in consumer needs and services,” he explained.
“Alibaba and Tencent are very visible in China, but we also own a stock called MercadoLibre,” he said. “It’s the largest online business in Argentina, Brazil, Colombia and Venezuela where e-commerce penetration is a quarter of what it is in China. That region is lacking but consumer preferences are no different.”
“Things like that are visible well outside of China and ultimately businesses themselves need to recognise that they have to be capable of operating in a world where you need to have a digital presence and streamline and improve your own internal IT system,” the manager added.
“At the end of the day it is an asset class that is under-covered and under-owned. It has been a volatile asset class but slowly and surely we would want people to understand that there are times when you should own this asset class and understand what percentage of your portfolio [it should be],” he said. “Most people would be underweight this asset class and at times meaningfully so.”
Eidelman has been a manager on the JPM Emerging Markets since February 2013 and works alongside Austin Forey, who has overseen the fund since 1997.
The fund launched in 1994 and over the past 20 years has delivered a total return of 476.69 per cent.
Performance of fund vs sector & benchmark over 3yrs
Source: FE Analytics
More recently, the fund has delivered a total return of 38.13 per cent over the past three years, compared with a gain of 33.3 per cent from the MSCI Emerging Markets index and a return of 31.05 per cent from the IA Global Emerging Markets sector average.
The fund has an ongoing charges figure (OCF) of 1.15 per cent.