Value, Growth and Dividends in Emerging Market Equities

Published Mon, 6 Aug 2012 11:00 CET by

Given the process of de-leveraging in much of the developed world, growth in the global economic output in the coming years will be driven primarily by growth in the emerging market economies. In fact, the IMF estimates that by 2014, almost two thirds of the world's GDP growth will originate from the emerging markets. As many of the developed markets are currently in recession, that share will be as high as 80% this year alone. The situation bodes well for the rise in emerging markets' corporate earnings, which are estimated to increase 12% this year. Favorable macroeconomic settings, driven by a buoyant domestic demand, and solid earnings growth make undervalued equities in emerging markets attractive for growth and value investors.

One way to reap the benefits of emerging market growth is by investing in highest-rated emerging market funds, such as the SKAGEN Kon-Tiki fund, or in dividend-paying stocks. One reason to focus on SKAGEN Kon-Tiki, which is oriented toward value creation, is its investment concentration in undervalued, under-researched and unpopular companies from both developed and emerging markets. Traditionally, the fund invests at least a half of its assets in attractive emerging-market companies. Following this strategy, the fund has successfully outperformed its benchmark, the MSCI Emerging Markets (MSCI EM) index, by 8.46 percentage points, net of fees, since the fund's inception in April 2002.

SKAGEN Kon-Tiki versus MSCI Emerging Markets Index Graph
Due to a heightened risk aversion among investors, on the basis of price-earnings (P/E) and price-book value (P/BV) ratios, emerging market equities are now priced at a discount to their historical averages and a discount to developed markets. For instance, SKAGEN Kon-Tiki is trading at a weighted P/E of 5.5x estimated 2012 earnings and 5.0x estimated 2013 earnings. This compares to comparable ratios of 9.6x forward 2012 earnings and 8.3x forward 2013 earnings for the MSCI EM index. The fund's trailing P/BV of 0.9 is also well below the MSCI EM index's of 1.5. Given this undervaluation, analysts at SKAGEN Funds see a weighted upside of 67% for the SKAGEN Kon-Tiki fund as a whole.

SKAGEN Kon-Tiki's largest 35 holdings, which account for 75% of the fund's portfolio value, have a forward dividend yield of 3.6%, based on the earnings estimate for 2012. Some individual stocks in the fund boast higher dividend yields, representing attractive income, value, and growth plays. Investors can be selective and place their investments into individual stocks by industry or country.

Among the fund's highest yielding stocks are SeaDrill (OSL: SDRL)(Nasdaq: SDRL), Vale (SAO: VALE5)(NYSE: VALE), Exxaro Resources (JNB: EXX)(OTCBB: EXXAY), Sasol (JNB: SOL)(NYSE: SSL), Eurasian Natural Resources (LSE: ENRC)(OTCBB: EURNY), Aveng (JNB: AEG) and ABB (VTX: ABB)(NYSE: ABB).

Highest Dividend Yielding Stocks in SKAGEN Kon-Tiki Fund Table
The fund also invests across several industries and markets. For example, SKAGEN Kon-Tiki invests heavily in emerging market financials, including several dividend-yielding stocks. The fund's largest financial holding is that of Haci Omer Sabanci Holding (IST: SAHOL)(PNK: HOMJF), a Turkish industrial and financial conglomerate whose activities range from banking and tire/automotive to cement, tobacco and tourism. The holding pays a dividend yield of 1.3%, has a P/E of 9.1 and is up 24% over the past year. Another financial holding in the fund is State Bank of India (NSI: SBIN), an India-based banking group with a dividend yield of 1.75%, a P/E of 8.3 and a one-year return of -12.3%. Although not an emerging market stock, Aberdeen Asset Management (LSE: ADN)(OTCBB: ABDNF) is the fund's high-yield financial investment, with a dividend yield of 3.6%, a P/E of 17.6 and a one-year return of 27.5%.

SKAGEN Kon-Tiki's large value investment in energy is Gazprom (MCX: GAZP)(OTCBB: OGZPY), the world's largest natural gas company. It has a dividend yield of 2.8%, an extremely low P/E of 2.6, and a one-year return of -21.7%. Another energy industry-related stock is that of Baker Hughes (NYSE: BHI), an oilfield services and technology company, with a dividend yield of 1.3%, a low P/E of 11.2 and a one-year return of -29.2%.

In the consumer staples sector, the fund invests in Cosan (SAO: CSAN3)(NYSE: CZZ), a Brazilian sugar and ethanol giant with a focus on renewable energy. The stock pays a dividend yield of 1.6%, has a low P/E of 4.8, and is up 44% over the past year. Also, in the consumer staples sector, SKAGEN Kon-Tiki invests in Heineken (AEX: HEIA)(OTCBB: HINKY), one of the leading beer brewers in the world. The company pays a dividend yield of 1.8%, and has a P/E of 18.8 and a one-year return of 14.8%. While per se it is not an emerging market stock, Heineken derives a large part of its growth from emerging markets.

As regards the healthcare sector, Richter Gedeon Vegyeszeti Gyar Nyrt (BUD: RICHTER), Hungary's largest pharmaceutical company and the world's 10th largest generic drugs producer, is one of largest holdings in SKAGEN Kon-Tiki's portfolio. It has a dividend yield of 1.7%, a P/E of 12.7 and a one-year return of 5.9%. In the IT sector, there is the fund's largest holding, Samsung Electronics (KSC: 005930)(LSE: SMSN). Samsung Electronics is one of the world's largest producers of consumer electronics. The company is a leader in mobile phones, smartphones, TV's and memory chips. It has a dividend yield of 0.4%, a P/E of 12.0 and a one-year return of 19.2%.

Investors interested in selective geographical stories, such as the China growth story – a play on the Chinese consumer – can invest in the companies like Great Wall Motor Company (SHH: 601633), a Chinese car manufacturer with sales of 463,000 units in 2011, growing 31% year-over-year. The company has a dividend yield of 1.9%, a P/E of 12.4, and a return of 31% since its IPO last year. Another play on the Chinese consumer is China Mobile (HKG: 941)(NYSE: CHL). It is a growing mobile service provider with 680 million subscribers, almost seven times Verizon Wireless' count. The company pays an attractive yield of 3.8%, has a P/E of 11.7 and a one-year return of 17.2%.

While SKAGEN Kon-Tiki is only one of the available emerging-market funds, it is among the highest-rated and highly profitable funds with a management fee of 2% and a performance fee of 10% of excess returns relative to MSCI EM index. Investors can weigh their options and can choose to invest either in the fund per se or in individual high-yield stocks. Either way, they will be receiving a good exposure to emerging markets' value and growth plays.

Stock name Dividend Yield
Seadrill 999.99
Aberdeen Asset Management 6.14
Cosan 4.51
Abb 3.42
China Mobile 3.29
Vale 2.85
China Mobile Ltd 2.82
Sasol 2.76
Heineken 1.55
Cosan 1.03
State Bank Of India 0.92
Baker Hughes 0.00
Exxaro Resources 0.00
Gazprom 0.00

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