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Introduction
Hi, I'm Brad Aham, Head of the Emerging Markets Equity Team at State Street
Global Advisors. I'd like to review the performance of emerging market equities
in the third quarter. All performance numbers are from the MSCI Emerging Markets
IndexSM (MSCI EM Index) series.
3rd Quarter Recap
Investors experienced another strong quarter as emerging markets gained 14%
and added to earlier gains to bring the year-to-date return up to 35%. This
great performance really consisted of three legs: a 10% gain through July 23;
a peak to August 16 trough of -17.5%; then a 26% rebound. The dramatic decline
was caused by intensifying global credit concerns, but this was alleviated by
the blistering rally when the Fed cut rates. Developed markets saw a similar
pattern, but could not match the upside as both EAFE and the US gained 2% this
quarter. It should also be pointed out that returns to non-Dollar based investors
have not been as good, due to Dollar weakness against many major currencies
include the Euro, Pound and Yen.
Regional Performance
All regions performed well.
EMEA Region
EMEA was up a relatively modest 8% while Latin America gained 11%. Asia was
the top region, adding 19% and was boosted by China's strong returns. The 4
country BRIC index continued its outperformance of the cap-weighted index as
it gained 25% this quarter. The strongest industries were insurance (37%), materials
(27%) and real estate (25%).
Latin America
Latin America was led by Brazil (21%) and the smaller market of Peru (22%) as
commodity names performed well. CVRD (51%) and Southern Copper (33%) led their
respective markets and are now up more than 100% for the year. Beyond strong
commodity exports, the Brazilian market continues to benefit from lower official
interest rates as the central bank cut the Selic rate a total of 75bp over the
quarter. The healthy domestic economy is helping financials like Banco Itau
(18%) and retailer Lojas Americanas (24%).
Mexico
Mexico (-4%) had a disappointing quarter as weakness in several larger names
depressed the market. In particular, Grupo Televisa (-13%), Walmart Mexico (-3%)
and Cemex (-19%) tracked lower on concerns of weakness in the US economy. Mexico
has not seen a lot of new equity issuance in recent years, subsequently its
relative size in the benchmark has declined and it is now less than 5% of the
MSCI EM Index.
Turkey
Turkey (24%) was the top market in the EMEA region as both the local market
and the currency posted gains. Uncertainty in the political arena was cleared
up when Prime Minister Erdogan won his second five year term after a contentious
election process. Banks and materials were the strongest sector with names like
Garanti Bank (36%) , Akbank (36%) and steel maker Eregli (52%) continuing their
good performance.
Russia
Despite oil breaking $80 per barrel in September, Russia returned a fairly sedate
9%. Big energy names like Gazprom (5%) underperformed, while Norilsk Nickel
(22%) and telecoms like Mobile Telesys (14%) and Vimpelcom (28%) led the market.
Hungary
Hungary's market fell 1% as banking giant OTP Bank lost 7%. There is an interesting
battle going on for refiner Mol (up 6% this quarter) as Austria's government-controlled
refiner OMV is attempting to take over its neighbor.
Israel
Israel gained 8%, primarily due to strength in fertilizer maker Israel Chemicals
(16%) and internet security company Check Point Software (10%). The market gained
on some positive news this quarter when index provider FTSE announced that Israel
would graduate from emerging to developed markets status. Speculation remains
on whether MSCI will announce any country graduations in its index series.
North Africa
North African markets like Morocco (14%) and Egypt (12%) advanced this quarter.
Real estate and finance were strong sectors as Douja Prom Group (27%, Morocco)
and Commercial International Bank (30%, Egypt) led their respective markets.
Asia
In Asia, the story was all about China this quarter as the Index rose 42%. Hong
Kong listed China shares were fueled this quarter by government plans to widen
the window for mainland based investors to buy companies trading offshore, including
many Chinese names that only have Hong Kong listings. Now familiar names like
China Life (60%), China Mobile (53%) and CNOOC (48%) led the market. It is interesting
to point out that with a weight of 16%, China is now the largest country in
the MSCI EM Index, displacing Korea which has slipped to 15.5%. One person lightening
up on China's market is Warren Buffett as Berkshire Hathaway is selling shares
in Petrochina. Compared to when he bought the shares in 2003, he's made over
600% on his investment.
India
India added 20% this quarter as the market was strong across several sectors.
Notable names include energy conglomerate Reliance Industries (38%), the country's
largest engineering company Larson & Toubro (31%) and financials like HDFC
Bank (28%). The strength of the rupee has generated concerns over margins in
the IT sector and names like Infosys (0%) and Satyam Computer (-3%) underperformed
this quarter.
Korea
With strength in the materials and shipbuilding sector, Korea advanced 14% this
quarter. Steel giant Posco (53%) continued its re-rating while names like Hyundai
Heavy (24%) and Samsung Corp (50%) benefited from strong order flow for ships
and construction projects. In the market's large technology sector, Samsung
Electronics (3%) disappointed investors again but NHN, ‘the Google of Korea',
jumped 27%.
Southeast Asia
Southeast Asian markets were mixed as Indonesia (15%) and Thailand (13%) had
double digit returns, but Malaysia was up only 1% and the Philippines declined
1%. Pakistan (-6%) was the worst performing market in the Index this quarter.
Still up 34% for the year, Pakistan's political uncertainties have weighed on
the market as exiled former prime ministers Bhutto and Sharif both vied for
influence with President Musharraf.
Taiwan
Taiwan's market rose 6% this quarter, underperforming the MSCI EM Index in a
theme that has been all too common the past several years. Materials names like
Nan Ya Plastic (18%) and China Steel (23%) provided some excitement but financials
Mega Financial (-7%) and Chinatrust (-6%) were burdened with a weak domestic
economy and excess industry competition.
Conclusion
We finish the third quarter noting that while momentum has been extremely strong,
valuations have become richer. Markets are trading 17x historical earnings and
14x future earnings. While certainly not ‘bubble' levels, we are not leaving
a lot of room for disappointment. Being constructive on the asset class, we
are encouraged to note that arguments for sustainable growth in the face of
a US slowdown are growing. Also, the fourth quarter can often be seasonably
strong for investors. However, with such strong outperformance in recent years,
investors would be well served to remain disciplined in their asset allocation.
Thank you.
Sources: MSCI, FTSE
International markets entail different risks than those typically associated
with domestic markets, including foreign currency fluctuation, political and
economic instability, accounting changes and foreign taxation. These risks can
be increased when investing in emerging markets securities.
Past performance is no guarantee of future results. It is not possible to invest
directly in an index. Index performance is not meant to represent that of any
particular mutual fund.
The MSCI indices are trademarks of Morgan Stanley Capital International.
The MSCI EAFE® Index (Europe, Australasia, Far East) is a free float-adjusted
market capitalization index that is designed to measure developed market equity
performance, excluding the US & Canada. As of December 2003 the MSCI EAFE
Index consisted of the following 21 developed market country indices: Australia,
Austria, Belgium, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland,
Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Singapore, Spain,
Sweden, Switzerland and the United Kingdom. The Index is unmanaged and can not
be invested in directly.
The CBOE Volatility Index® (VIX®) is a key measure of market expectations
of near-term volatility conveyed by S&P 500 stock index option prices. Since
its introduction in 1993, VIX has been considered by many to be the world's
premier barometer of investor sentiment and market volatility.
The JPMorgan Emerging Markets Bond Index (EMBI) Global is an unmanaged index
that tracks total returns for dollar-denominated Brady Bonds, Eurobonds, traded
loans and local market debt instruments issued by sovereign and quasi-sovereign
entities of emerging markets countries.
SSgA may have or may seek investment management or other business relationships
with companies discussed in this material or affiliates of those companies,
such as their officers, directors and pension plans.
This material is for your private information. The views expressed in this
commentary are the views of Brad Aham of SSgA's Global Quantitative Strategies
Group through the period ended September 30, 2007 and are subject to change
based on market and other conditions. The opinions expressed may differ from
those of other SSgA investment groups that use different investment philosophies.
The information we provide does not constitute investment advice and it should
not be relied on as such. It should not be considered a solicitation to buy
or an offer to sell a security. It does not take into account any investor's
particular investment objectives, strategies, tax status or investment horizon.
We encourage you to consult your tax or financial advisor. All material has
been obtained from sources believed to be reliable, but its accuracy is not
guaranteed. There is no representation or warranty as to the current accuracy
of, nor liability for, decisions based on such information. Past performance
is no guarantee of future results.
Distributor: State Street Global Markets, LLC Member FINRA, SIPC
Date of First Use: October 2007
Posted On: November 02, 2007
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