How to uncover emerging market assets

When looking to invest in emerging market companies, you need to look for two things, says Michael Reynal, portfolio manager Sophus Capital (formerly RS Investments). They are: sustainable earnings growth and attractive valuations.

Earnings growth should not only be sustainable over a long period, but should also be high. “We want to buy the best companies with the most attractive outlook, and we want to buy [them] cheap.”

Reynal also looks for positive revisions by companies, which he identifies as growth triggers in the short to medium term. He’s referring to positive outlook and earnings revisions.

“Emerging markets [can be] rife with risk,” he notes, “and we know, typically, you need to have that short-term trigger to confirm that [you’ll] be rewarded” for investing.

Once Reynal identifies growing companies, he then:

• meets management;
• scopes out competitive businesses; and
• researches the industries companies are operating in.

Much of his research is based on the findings of industry experts, who know how to compare one bank, property or technology company to another.

“Some of the examples that come out of this are pretty intriguing since the [research] process helps [find] companies that [other investors] may not look at. I can name a corn flour company in Mexico,” for instance, which produced consistent, double-digit earnings growth in 2014.

This is significant, he adds, since “you’d think corn flour, like any staple, would be a boring [investment].”

As well, the Brazilian insurance space has been surging. “We’ve been investing in companies that have been growing more than 30% in 2014, and they should grow by another 35% in 2015,” says Reynal. “We tend to prefer the mid- and small-caps because they’re lesser known.”

His focus on quantitative analysis also helps him highlight inefficiencies, such as whether there’s a lack of information about a business or industry, and whether there are barriers to access and biases that will constrain growth.

Referring to the Mexican flour company, Reynal explains, “The bias against [it] is so powerful because the reality is most of us aren’t interested in investing in something so pedestrian and boring as flour or bread.

“And, yet, these companies can have growth potentials far surpassing those in developed markets.”