Market Volatility Update – Quality Growth Equities

The recent global stock market sell-off has resulted in the steepest decline in years for many major markets. Fears that China’s economy is dramatically slowing have sparked heavy selling around the globe

At Vontobel Asset Management, New York, we have been concerned about China for quite some time. We maintain the position that despite the frothiness in Chinese equities, broad underlying economic weakness persists. We were not surprised by the recent collapse in the Chinese equity markets. In our view, when governments intervene in a heavy handed fashion, as the PBOC recently did, it makes the situation worse. Short-sighted government measures in an attempt to bolster markets have often only made participants more cautious. For example, Beijing’s unexpected move to devalue its currency signalled to investors that the Chinese economy may be in worse shape than investors had perceived.

We believe investors should put the recent correction in emerging markets in perspective as they have not performed well in the past four to five years. In our view, valuations are reasonably attractive. Emerging market currencies have been declining – their 30-50% drop in the last few years indicates that the significant part of the correction is behind us. We believe the decline is a necessary part of the corrective process and the more recent collapse in the past six months signals that the downside risk in emerging markets is more limited from this point on, marking the beginning of the healing process, not the end.

Currency declines have fuelled improving exports and declining imports in emerging market economies before and will likely help a lot of countries this time around too. We are already seeing those trends in most of the emerging markets where we have meaningful exposure. The commodity collapse has been negative for many emerging market countries but broadly speaking, our big exposures will be positively impacted, we believe.

Vontobel’s Quality Growth Equities portfolio positioning Our portfolios do not have much commodity, energy or basic materials exposure. We continue to be meaningfully overweight the Consumer Staples sector & other more stable growth areas, per our style, where we believe there is room for margin expansion, and which should benefit from declining commodity prices.

We remain overweight Brazil, although we currently do not have Brazilian banking or commodity exposure. We are confident that the companies we own can deliver solid EPS growth, even in the midst of a recession in Brazil. The current environment of monetary tightening, and a crackdown on corruption and high unemployment will, in our view, lead to improvements in the country over the long term, despite the short-term challenges.

Our exposure to India has increased because of strong performance, and we believe the companies we own can continue to generate mid-teen plus EPS growth for the foreseeable future. India, with high interest rates and declining inflation, is benefitting from weaker commodities. Contrary to the sell-off in 2013, India is now better positioned than most of the emerging market countries. Information Technology services, or Pharmaceuticals, along with private sector financials, continue to benefit from this environment.

In our view, the U.S. equity market is catching up to the rest of the world in terms of its decline in valuations. However, even after the recent sell-off, U.S. shares remain much more expensive. Arguably, there is more downside risk in the U.S, while emerging markets seem to be more washed out after five plus years of significant underperformance.

A silver lining amidst the turmoil in global markets is that the U.S. Fed tightening is likely off the table for now. We can’t and don’t try to time the markets or predict short term performance. There are some structural issues that need adjustments in the global economy. That said, over the long term, we continue to believe that emerging markets will continue to develop, that people will continue to want to better their lives and investing in companies that can capture this will prove valuable over time. We believe emerging markets should deliver reasonable growth even in the face of an economic slowdown.

Rajiv Jain – Managing Director – Vontobel Asset Management