Will government investment in infrastructure be a key driver of economic expansion in emerging markets?

We believe this is the case in emerging markets and, in particular, when it comes to green infrastructure. By this, we mean mainly investments in switching from internal combustion engine to electric cars, and investments in renewable energy. Both themes are really relevant to emerging market as, for instance, looking [at] electric cars, all the batteries are produced by Asian companies, notably in China and in Korea.

Renewable energy is also a fascinating theme, as for some emerging market countries it gives them a unique opportunity not only to reduce, obviously, the carbon footprint which is, for some of the bigger countries such as China and India, is really already an issue, but it also can reduce and maybe even remove the dependence for those countries on imported oil and gas. It could also create lots of job and economic growth. So really, really important theme.

So, when you think about it, most of EM countries have lots of sun, think about Africa for instance, and wind, and by deploying new capacity and replacing gas- and coal-fired power plants, they will reduce massively their imports and potentially become net exporters. This is clearly one of China’s goals in the coming years.

So we are playing those two themes in all our portfolios. One segment we like a lot is the modernization of the power grid. In order to have wind and solar electricity, which by definition are intermittent types of power, the grid needs to be modernized. It needs to become smarter to be able to deal with different sources of power, re-dispatch them, and also to store energy. In order to do this, you need sophisticated pieces of hardware as well as dedicated software solutions.

So, yes, in conclusion, green infrastructure, the theme is very important for emerging markets. The past few years, we’ve been more focusing on, I would say traditional infrastructure, roads, airports, railways. And the future will be probably in green infrastructure which could be actually really, really interesting in emerging markets in the coming years.

Do you believe value will continue to outperform growth in emerging markets?

Value has pretty much underperformed for the past 10 years in emerging market and developed markets. Why is that? Well, we never really recovered from the global financial crisis of 2008/2009. We didn’t have a recession for the next 10 years, but it didn’t feel that way. We were in a risk off environment with everyone waiting for the recession, especially in the past few years. That was averted thanks to the central banks globally that kept interest rates very low to support the economy, but clearly, investors felt worried. And for that reason, they favoured growth stocks.

Another driver for the underperformance of value stocks was the technological revolution we have witnessed over the past few years. With the move to shop, entertain, and now even working online, many industries were disrupted, and the lack of regulation and competition, plus network effects, meant that some giants were created very quickly. And now that they grew very fast, their market cap did as well. And then obviously COVID happened.

Value stocks are mainly cyclicals, financials – they were hit by the recession whilst new economy stocks actually benefitted. So for good reason, they outperformed even more in 2020.

And finally, I would say toward the end of last year, we had really the impact of retail investors in many countries, China, Korea, Brazil, they piled into the same COVID winner stocks creating a momentum bubble which is partly unwinding now.

So why is that? Why have we started to see this rotation more towards value? First, one of the reasons is that those stocks, those COVID winners, reached sky-high valuations while actually a lot of them are still loss-making with superior growth implied for many years to come.

Then, typically, you have a change of style leadership when you have a reset, a turning point, and this is typically a recession like we had last year. During that period, value stock became extremely cheap and it’s normal to see a rebound now that the economic outlook looks much brighter thanks to the deployment of vaccine that seem very effective.

So, longer term, in order to see a sustained outperformance of value over growth beyond this year, this recovery year, we need to see returns and growth slowing down for the new economy names. This may actually not be so far away in the future. When you think about it, we’ve seen many IPOs in the new economy sector. This is the best timing to do so. So everyone is coming to the market, raising a lot of cash, and so we are seeing an increased competition in the new economy segments.

Another reason there, for potentially lower returns in the future is regulation, and that’s definitely happening in China right now. A lot of companies have been told they need to change their behaviour and they have to do it now, and that would have an impact on returns.

So it’s very difficult to say if this increase of value, of competition and regulation will really hit hard those companies in the near future or if it will take a little bit longer, but we really feel that at some point, this will happen and value would outperform in that environment.

How do you integrate ESG factors in your investment process?

ESG is completely integrated in our approach. When we look at a company, we look in depth at the way the company deals with the environment, its employees, and the community it operates in, as well as corporate governance.

The reason is that a company can cut corners. It can produce products destroying the environment or the manufacturing process can destroy the environment. A company can pay its employees poorly or treat them badly. It can undercut its suppliers or treat its minority shareholders badly.

For sure, over the short-term, profit will probably be increased, but it is not sustainable. The company will eventually be regulated, asked to protect the environment. Employees will leave or have low productivity. Suppliers would refuse to work with the company, and minority shareholders won’t want to be involved with the company, giving a company a low valuation and a lack of access to capital.

So integrating ESG on top of, obviously, being the right thing to do for our society, is also the right thing to do as an investor when it comes to finding good investments. We constantly reject companies when we believe that the company has poor ESG practice. And we, as I mentioned, we pay a lot of attention to many criteria when it comes to the quality of the management, the way the company treats its employees and the environment. This is really key for us and we don’t compromise on that element.