Precious ‘gems' - F&C backs Russia, Brazil and the Emirates

F&C Investments, a leading investor in emerging markets, is maintaining a selective approach within its global emerging markets (GEM) products following the recent sell-off.

At the country level the F&C emerging equities team favours Russia, the United Arab Emirates and Brazil and is most underweight China, Korea and Malaysia.

"Despite the relative lack of exposure of many emerging countries to the worst aspects of the global credit crunch, the external environment still carries challenges from a slowdown in global growth and rising inflation. Risk aversion indicators are not back to their January levels, so there is no immediate feeling we should be increasing risk in the portfolios. Instead we continue to focus the portfolios on those countries where the fundamentals remain strong and valuations are more attractive," said Jeff Chowdhry, Head of Emerging Equities.

One such market is Russia where, despite some concerns about higher than expected inflation, F&C are more optimistic than the consensus on the impact of the new Russian president, Dimitri Medveydev, on the corporate sector.

"Although Medveydev is undoubtedly closely aligned to former president Putin we believe this is positive for economic stability. We think that a reduction in taxes and less state interference are likely, going forward. For example, recent changes in the mineral extraction tax regime for oil companies will seekto increase the tax-free threshold from next year from $9 per barrel to $15. The finance ministry is also envisaging to grant a seven-year tax holiday for development of remote oil fields in specific regions. It is believed that further tax incentives are also being considered. In addition, the Government wishes to scale down involvement in the economy.Russia continues to benefit from booming oil prices and earnings growth from Russian corporates is strong. Combined with attractive valuations and the potential for further exchange rate appreciation we're strongly overweight Russia," said Chowdhry.

F&C also favours the United Arab Emirates which, like Russia, is experiencing a windfall from high oil and gas prices and has created a huge current account surplus. The government of UAE is using the financial flexibility from such revenues to develop its presence as a key hub for financial services and tourism. The main risk, says Chowdhry, is that "a prolonged period of negative real interest rates will create an asset bubble." However, for now strong earnings growth and reasonable valuations make this F&C's favoured spot in the Gulf region.

F&C has grown more cautious on a number of Latin American markets with a current underweight to Argentina, Chile and Mexico but remains positive on Brazil, the largest country in the region, whose economy continues to perform well and is expected to grow by 5% this year. Chowdhry argues that recent upgrades by credit rating agencies should help attract additional capital flows to Brazil.

Other overweight emerging markets are India, Taiwan, Thailand, Israel, Peru and Colombia.

Although the F&C team are underweight China, believing there is a risk of earnings disappointments in 2008 given rising input costs and increased price controls, they still believe the economy can deliver double-digit growth over the next 12-months and that the Chinese authorities have both the will and flexibility of options to deal with rising inflation.

"We believe Emerging equities should be considered an important allocation within a diversified portfolio whether you are a long term private investor or a pension scheme. While global factors such as inflation and tightening of credit create some added uncertainty, the shorter-term sell-off has brought stock valuations in many countries back to more attractive levels, particularly in markets such as India which in our view had become expensive at the end of 2007, but are now attractive.

On a secular basis, even against the backdrop of a global slowdown, growth rates in a number of emerging countries are still expected to be well ahead of those in mature western economies this year and we are resolutely focused on identifying those companies operating within these markets best placed to deliver strong returns for investors," concluded Chowdhry.