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This episode, Laurence Bensafi, Portfolio Manager & Deputy Head of Emerging Markets Equities, RBC Global Asset Management (UK) Limited, provides an update on emerging markets, noting a range of performance across countries and sectors. Laurence also discusses how dividend-paying stocks within the asset class have fared within a rising interest rate environment. [11 minutes, 42 seconds] (Recorded June 16, 2021)

Transcript

Hello and welcome to The Download. I'm your host, Dave Richardson. And we have not kept up on what we think is a really important part of the market globally, and that is emerging markets. And there is no one I'd rather talk to about emerging markets than Laurence par excellence Bensafi from the RBC Global Asset Management team in London. A critical and senior member of the Emerging Markets team there. Laurence, how are you doing?

I'm good, thank you, Dave. I'm good in London. Things have really improved here. So we're finally back to a more normal life, which is really, really nice.

Fantastic, and your family as well, and you're enjoying a bit of a heat wave?

Exactly. It doesn't happen often so we really enjoy also the nice weather.

Nice weather OK. Well, let's hope that you continue to enjoy a beautiful summer in London and wherever you end up around the world. And let's travel there from an investment perspective; how are emerging markets positioned right now, relative to more developed markets, from an investment perspective and from your perspective?

Yes. Emerging market equities, so far, have a pretty decent start for the year. I think the return in US dollar is around 7%. We've been underperforming a little bit developed markets the past few months simply because— you've probably seen the headlines— emerging market countries are a bit slow when it comes to deploying the vaccines for Covid-19. We have had a few new waves in some of our countries, and especially one that really seems quite strong and quite worrying in India, even though it's actually back already to almost a normal level, but because of that and fears of further lockdowns in emerging markets. And so, the asset class has underperformed a little bit recently. Having said that there's been, I would say, a large range of performance across countries and sectors. So right now, LatAm (Latin America) and Eastern Europe are doing very well, especially on the back of strong oil price and also mining that we've seen. Emerging market is also a leader when it comes to green infrastructure. That's been also a really interesting theme to play. And we've seen a lot of names doing well. Whether you look at electric batteries for the cars or when you look at the production of electric cars where China and Korea, for instance, are some of the leaders. We see also great opportunities in India, Southeast Asia, where investments are picking up and the large young population consume more and more. So really a lot of exciting themes in emerging markets. On very short term, for equities in general and EM in particular, we are slightly cautious. I'm talking about the next few months. Valuations are not as attractive as they used to be. The market is up about 50% over the past twelve months. The rally seems a little bit overextended, especially at a time where we talk a lot about inflation; it’s definitely there and we don't know if it's going to be temporary or last longer. We are starting to see already increasing interest rates in some of our countries. So, we could see a pullback in the coming months. But to be fair, that would be very healthy. I think it would be a great opportunity for investors and for clients with exposure to that class, or to get the exposure if they don’t have it right now, because, as I said, over the long term, emerging market still remain a very exciting part of the market to invest in, much cheaper than developed market and with higher growth potential.

And we've seen some strength in the Canadian dollar here and some relative strength in the Canadian market due to Canada's obvious exposure to cyclicals, energy, mining, agriculture, lumber; prices have been going higher. Do you continue to think that we're going to see the emerging markets that are more along those lines, like Russia and Brazil? Are those the markets you favor or do you think RBC GAM is going to see strength in other places?

Yes, that's interesting because, as you know, I'm more involved in the value dividend side of the market. That has been a tough place to be for quite some time, pretty much ten years. I think we were pretty much talking about the death of value dividend investing. Clearly that has completely changed over the past few months; there has been a huge rotation, you would say, out of new technology and new economy stocks to the old economy, as you mentioned, metals and mining, energy and cyclicals in general. It's been quite a big move. But to be fair, if you look after ten years of underperformance, it was actually a small move, if you put it in perspective for the long term, for the past ten years. So, yes, the question I get the most is, is it going to continue along this rally and can the most cyclical part of the market continue? Well, I think it depends on a lot of things. There’s definitely a support in terms of valuation, because that kind of new economy segment stocks are still extremely expensive when you compare them to cyclicals. As I said, the gap of valuation has just started to close and the expensive stocks are still the most expensive they ever been. So there's clearly a valuation support. But I guess you need more than the valuation support. And basically, the way we think about that is, are we in a situation which is similar to 2002 or more 2010 and 2011 right after the first two recession crises we’ve had? Usually cyclicals do better after a recession, but that can last only for a short period of time if you just have a short rebound in economic growth. For the cyclical segment to do better for longer, you need to see a continued boom in economic growth, similar to what we've seen in 2002, 03, 04, 05, 06. Those were really strong years. It was driven a lot by China growing really fast and then cyclicals did well for years. But after the global financial crisis, I think that happened because growth remained really weak for a very long time. So, now it's difficult to see, but governments have learned their lesson after the global financial crisis. I think if they were going back to that time, they would support more the economy because that led to other problems later on. The way that you look at the US or Europe, there's a big focus on stimulus. Everyone talks about stimulus. That's for that reason too. If we see those stimulus being implemented, that would be a big support, continued support for a most critical part of the segment. finally, last point, at the same time, the more expensive part of the market, which is basically technology In big part is facing, especially in our markets, the emerging markets, more competition, more regulation. We will not be surprised if we were to see some kind of derating over the next few years as well. So that's the picture. But, you know, there's a lot of uncertainties. As usual, we advise our clients a well-diversified portfolio.

And Laurence, just because we have you so rarely, if you got time for one more question, I just wanted to talk about dividend stocks specifically, which is your area of focus in emerging markets. How do you think dividend stocks in emerging markets will do in a rising interest rate environment that I think most people expect to see, as we emerge out of the Covid crisis?

Yes, that's an interesting question, because at the time when interest rates were so low for so long, we would have expected those stocks to do well. They didn't really, not at all, because there was no economic growth. People didn't care about 2% of dividend yield when they were looking at equity. They wanted growth. So they were actually investing in companies with no dividend but that we're showing top line growth. So that's what we've seen. Now people think it's interesting, people want dividends. But actually, I'm thinking maybe the other way around, as I think now if we're in an environment where growth is a little bit more abundant, as I said, if we have some stimulus implemented globally, I think investors would look with a bit more attention to valuation. They won’t be interested in paying a little bit less. They won't be desperate to get potential growth, even though there's no bottom-line positive numbers there. So I think actually dividend yields still could do a bit better, especially as we've seen a lot of countries and a lot of companies really increase their dividends recently. Some of the dividends are really high right now; especially, a lot of the cyclicals have now recovered. So they're paying really strong dividends. I think that's an area that actually could do well even in an environment where interest rates are increasing, and you find many of those names in the financial sector or the cyclical sector, in metals, mining and energy. So I think they would benefit anyway from that rotation into that segment. That's why those stocks can do well going forward.

Well, that is a fantastic synopsis of emerging markets and then a particular focus on cyclicals and dividend payers. Laurence, like I say, always great to see you. I'm glad to hear that you and your family are well. I know you've got a young family over there. Thanks for taking the time to join us today.

You’re welcome, Dave. I hope I'm going to be able to visit you soon in Canada.

That would be fantastic. We're looking forward to going and visit you in Europe.

Thank you so much.

We're all looking forward to that return to normal. OK, take care, Laurence.

Thank you.

Disclosure

Recorded: June 16, 2021

RBC Global Asset Management is the asset management division of Royal Bank of Canada (RBC) which includes RBC Global Asset Management Inc., RBC Global Asset Management (U.S.) Inc., RBC Global Asset Management (UK) Limited, RBC Global Asset Management (Asia) Limited, and BlueBay Asset Management LLP, which are separate, but affiliated subsidiaries of RBC.

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