Second half brings down Baring Emerging returns- Baring Emerging Europe (BEE) reported a NAV per ordinary share of -2.57% for 2018 while the benchmark (MSCI Emerging Europe 10/40 Index) went up 1.62% on the year. After a strong first half of the year Baring Emerging Europe was brought down by turbulent economic situations.
The manager had this to say about the turbulent second half of the year:
“Within Russia, the portfolio’s performance detracted from relative returns driven by stock selection. Technology stocks year-to-date have been some of the strongest performers globally, yet some of our Russian technology investments suffered, especially domestic orientated companies, as oil and gas significantly outperformed during the period. Under these conditions our investments in Mail.Ru, the Russian internet service and social media service provider and internet technology company Yandex suffered. Notably, the portfolio did benefit from its investment in Eastern European technology software developer EPAM, with the company delivering strong results and a healthy demand pipeline for its solutions. The potential for further sanctions in Russia kept the Ruble weak despite the higher oil price and placed pressure on companies within financials. The Russian retail sector has also continued to experience pressure following tougher price competition. Here, our underweight position relative to the benchmark in supermarket retailer Magnit was a notable contributor to relative return as the company reported weak results while our investment in competitor X5, our preferred investment detracted. Whilst the portfolio performance was dragged down relative to the benchmark by the underweight positions in specific energy stocks, a number of other stock selections in the sector delivered significant returns, notably, our conviction holdings Novatek and Lukoil. Novatek ended the period as the top performing energy company, continuing to benefit from strong demand for liquefied natural gas and an increasing profitability profile from its projects in the Yamal peninsula. The energy sector sits at the forefront of earnings generation in Russia, which alongside improvements in governance and rising dividend payments, have in our opinion led to reduced risk perceptions. On 6 April 2018, the US Office of Foreign Assets Control (“OFAC”) announced sanctions against seven Russian individuals and companies they own. One of the specific sanctions was directed at the owner of the aluminium producer EN+ Group (“EN+”), where the portfolio owns global depositary receipts. As a result of these sanctions, the share price of EN+ has declined and the market has no liquidity whilst the company remains a sanctioned entity. A prudent valuation marking the investment to zero in the portfolio has been applied by the Board. Turkish financial markets have transitioned through a period of extreme stress this Summer as an indecisive monetary framework combined with political interference and rising inflationary pressures undermined the Turkish Lira’s credibility, pushing the country’s financial system to the limit. Here, the portfolio’s overweight position in the financial sector was a notable detractor, against the benchmark, with our investments in Turkish banks Garanti and Yapi ve Kredi negatively impacted by local market weakness. Despite the recent events, we believe that there remain considerable investment opportunities in the Turkish market, especially in companies that have pricing power and strong balance sheets, which now trade at attractive valuations; providing an attractive entry point for investors who are willing to take a medium term view. One such example is mobile telecoms market leader Turkcell, which was a notable positive contributor to returns. The company operates with an impressive 50% market share and has delivered strong top line growth. Our investment in the Polish shoe company CCC underperformed following extreme weather on the continent creating a lack of demand for its seasonal product range. Polish copper miner KGHM also suffered weakness, this followed the surprise dismissal of its chief executive officer and deputy. In Greece, the National Bank of Greece was also weak, moving in line with the wider market which continues to suffer from volatility.”
Russia
“As mentioned above, 2018 saw a renaissance of Russian energy stocks. With an annual average share price appreciation of approximately 50% (in USD) this sector stood out, supported by a higher oil price and a weaker Ruble. The sector dominated the performance ranking of International and Global Emerging Markets. More domestically orientated stocks fared worse as Russian consumer confidence fell and international sanctions continued to impact investors’ risk perception as well. Overall the market ended the period relatively flat, this was a respectable performance which saw Russia end the period as one of the strongest performing emerging market countries globally. As a result, the portfolio continues to be overweight in Russian stocks.”
Poland
“In an overall volatile Emerging European stock markets environment, it was Polish equities that provided much needed stability. In the banking sector the acquisitive large caps Santander Polska and state owned PKO PB performed solidly, gaining 7% and 20%, respectively. In our opinion, the market’s judgement is well supported by potential cost synergies such as digitalisation and leaner branch networks. Even though consumer confidence has increased, supported by high-single-digit growth in disposable income, Consumer stocks found it difficult to live up to the market’s high earnings expectations as increased competition kept margins (and inflation) in check.”
Turkey
“Turkey was the worst performing stock market globally as the country’s economy came to an abrupt halt amidst a currency crisis, triggered by weak economic data and a deterioration of the bilateral relationship with the US. However, the Turkish index remains largely unchanged this year in local currency and it is the substantial depreciation of the Turkish lira that led to losses of approximately 40% (in USD). Not surprisingly export orientated companies, earning hard currency, did better than businesses confined to the local economy.”
Other Regional Markets
“The Romanian stock market developed favourably in 2018, as the banking sector benefitted from robust domestic consumption and investment backdrop. More importantly, we take notice of the slow but steady improvement in liquidity and stock market depth (via public offerings) of this most promising of European Frontier Markets. Greek banks remained under intense scrutiny as investors continue to be concerned about their non-performing loans and asset quality. The repossession of collateral and its subsequent resale has remained a slow and tedious process, hindering the banks’ ability to shore up liquidity. Greek refineries, on the other hand, benefitted from their strategic location on the Mediterranean and improving margins. The Hungarian market, one of the best performing stock markets over the last couple of years, ended the period relatively flat, as rising earnings were counterbalanced by investors’ concerns over ultra-dovish Central Bank policies.
Middle Eastern and North African markets benefitted from a strengthening oil price environment, while specifically, the potential inclusion of Saudi stocks into the MSCI Global Emerging Market Index, supported Saudi stocks, opening the Tadawul exchange to an international audience.”
BEE- Second half brings down Baring Emerging returns