EM PMs seek stability through the volatility
The portfolio managers of JMG and JAGI are steering through tariff turbulence by focusing on high-quality companies with long-term strategies.
The recent swings in US trade policies have ramped up macroeconomic uncertainty and volatility to extraordinary levels, creating a challenging backdrop for making investment decisions. The portfolio managers of JPMorgan Emerging Markets Investment Trust (JMG) and JPMorgan Asia Growth & Income (JAGI) seek to steer their portfolios through volatility and not overreact to headlines or market swings. Conversations with company managements reveal high levels of caution but the portfolio managers also note strong management teams are sticking to their long-term strategies and positioning for the next five or 10 years of growth.
Differentiating the impact of tariffs on stocks, businesses and economies
EM stock markets have been reflecting a mix of reactions to the volatile effective tariff rates. For example, EM companies that have dual listings on a US stock exchange have sold off more because they are more liquid and investors have been able to sell these positions to reduce risk. However, the fundamentals of these companies are no worse than other EM companies, which has provided the portfolio managers the opportunity to add some positions.
The Chinese equity market rallied sharply as the US and China took steps to de-escalate tariffs and investors priced in a more adaptable framework. However, 30% tariffs are still high enough to be disruptive to an already weak Chinese economy and many companies have scrapped full year guidance. In the Chinese market, the portfolio managers remain focused on quality companies, which have the ability to withstand tariffs and management teams that are focused on the long-term.
The implications of the new tariffs will vary widely by industry and country across Asia. In recent years, industries requiring low-end manufacturing, such as textile production and technology assembly, moved a lot of production from China to Vietnam, Indonesia and Bangladesh. Production is likely to remain in these countries because shifting it elsewhere is economically challenging.
However, the situation is complicated for companies in Vietnam, for example. The country was hit with significant tariffs due to a trade imbalance with the US that will be hard to fix. Many of the companies manufacturing products in Vietnam are not listed on the local stock exchange, limiting the first order impact. However, foreign companies may decide to reduce investment in Vietnamese operations, which could, in turn, impact domestic consumption. JAGI and JMG currently have no exposure to Vietnam.
The story is different for global technology supply chains with operations in Taiwan and Korea. Some production could be moved to US, which would potentially lead to lower returns due to higher labour costs and a shortage of engineers.
Valuations and shareholder value can drive returns
In times of high volatility and uncertainty, investing in companies that focus on shareholder returns is even more important. These companies tend to have stronger managements and corporate governance that can withstand a tougher economic environment; they also may generate higher returns.
As many EM companies transition from high growth to more mature businesses, they are beginning to focus more on creating shareholder value through dividends and share buybacks. The trend is clear in China, where management teams typically tended to redeploy cash into growth. With fewer compelling growth opportunities on offer, managements are realising that using cash in a way that benefits shareholders is the better option. For example, Tencent bought back around 4% of equity last year.
EM payout ratios have been steadily improving, with help from enhanced dividend policies and improving corporate governance across Asia. Several leading banks in Asia have been buying back their own shares, supporting JAGI’s overweight in financials.
Korea’s Value Up programme is a good example of more corporate governance and increasing shareholder focus. The Korean equity market is offering competitive businesses with dividend yields of 6%-7%, suggesting that the improvements are not yet priced into the valuations, which are at a discount to other Asian markets and its own historical range.
India remains an outlier on the expensive side relative to history but the JMG investment team was able to use the recent pullback—especially in small cap companies—to pick up two smaller companies it had been following for years.
Many of the smaller, peripheral markets are also now trading at attractive valuations. JMG has two positions in Indonesia, where companies have been increasing their focus on share buybacks and dividends. Brazil is also currently offering some of the highest dividend-yielding stocks after valuations sharply declined.
EM outlook
Emerging market investors will have many macroeconomic factors to consider as the impact of tariffs takes shape in the coming months. Concerns over their negative impact on global and US economic growth have weighed on oil and commodity prices and the US dollar. While a weaker US dollar tends to benefit emerging markets as a whole, the impact of lower oil and commodity prices is mixed: many EM countries are large importers or exporters of oil and/or other commodities.
In this uncertain and dynamic environment, the JMG and JAGI portfolio managers will continue to look for companies with businesses that can weather the volatility and management teams that are focussed on all options for creating shareholder returns.