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Areas for optimism in Emerging Markets
The COVID-19 crisis has changed how we live and work dramatically. For some companies it’s been disastrous but for others it’s meant new opportunities and the potential for expansion. Fidelity Emerging Markets Fund Portfolio Manager, Alex Duffy shares some of the stocks in his portfolio that are positioned for growth.
Over the last couple of years, industrial automation has become increasingly important, particularly in China, where rising labour costs have resulting in China losing share of manufacturing to Southeast Asia, where labour costs are lower.
As a consequence, there's been a huge focus on industrial automation and putting machines on production lines to lower costs. This was an important long-term investment prior to COVID. Post COVID, when production lines were shut down because you couldn’t have workers in factories, it became an absolute necessity. If we look at both capital and operating expenditure budgets for industrial companies, they’re increasingly shifting towards automation and Research and Development (R&D) to facilitate this.
This shift has benefited companies such like Advantech, a leader in industrial automation. Advantech is a business that we owned historically but sold out of on valuation grounds early in 2017. Over the last 18 month however, due to the research we’ve been doing around the adoption of 5G technology, our conviction has increased and when it was sold off quite sharply in the early days of COVID at the end of January, it was a great opportunity to bring it back into the portfolio.
This is also the case for MediaTek, a leader in 5G chip set manufacturing and a name that we've followed for a number of years. Like Advantech, it was sold off aggressively in the early days of what was perceived to be a relatively China/Asia centric COVID crisis. So again, this presented as a good buying opportunity.
Another stock in this space is that we’ve held for a long time is Taiwan Semiconductor Manufacturing Company (TSMC) which has been the biggest position in portfolio since the fund inception and remains that way. Our conviction in the company is unchanged in terms of their dominance they continue to go from strength-to-strength and generate good returns on invested capital with healthy payout ratios.
There’s was opportunity that I did want to touch on, which I’ve spoken less about over the last few year despite it being in the portfolio since 2014, is Techtronic industries.
This is a business which, really ticks the boxes for us in terms of what we look for in a good company. It's one of the leading manufacturers of power tools globally. It owns the Milwaukee professional tool brand and the Ryobi DIY brand - making drills, garden equipment, all manner of power tool devices. Its operating base is in Hong Kong, manufacturing is in China, it sells globally and has robust family alignment.
Alex Duffy, Portfolio Manager, Fidelity Global Emerging Markets Fund
Although 2020 has been a tricky period to navigate, the volatility has offered stock-picking opportunities amid periods of indiscriminate selling, enabling us to upgrade the portfolio, buying into good quality names at a discounted price. There’s certainly still plenty of areas for optimism in emerging markets.
The first thing I want to highlight is that this is a family owned business with a professional management team and that ensures very robust incremental capital allocation. But the real value for us as investors, is that they don't just have one unique, positive characteristic. Lots of good businesses tend to do lots of things very well. It's not enough just to have good corporate governance and a robust balance sheet. You need a management team, which is innovative, which invests in the long-term sustainability of the return profile to create opportunities for future reinvestment and an opportunity to create intrinsic value.
And, Techtronic is a company that do just that. They've invested very heavily in R&D to develop a lithium battery platform to facilitate the shift from corded power tools, to cordless power tools - the whole idea of the cordless workshop. And it's a single battery platform which means you can use a single battery platform for a variety of different tools. Furthermore, as the quality of that battery technology improves and your ability to regulate the power output of that battery technology improves, the ways to use are extended. The hand drill was just the first embodiment.
The technology is being transferred to cutting equipment, bending equipment, even lighting. And given the single biggest cause of fatalities and injuries on construction sites globally, is fire from lighting, (often installed quickly and somewhat unsafely with wires lying all over the place) improvements in battery technology; such as run times and consistency of the output, has enabled the use of a single battery platform. This results not only a safer work environment, it also creates new avenues of growth and reinvestment for the business.
This is a company which has been able to grow its top line in low double digits every year over the last nearly decade, now with increasing gross margins because of the types of products that they're accelerating and then diversifying into. Profit growth has been intense, and they still earn margins lower than their peers like Stanley Black & Decker because of their heavy R&D and reinvestment and its driven consistent share price out performance.
Techtronic Industries: 5-year share price
Source: Bloomberg, monthly in USD to 18 September 2020
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