On Why Emerging Market Small-Caps?; Health Benefits of a Plant-based diet – Part IV!

From: aditya rana
Date: Sat, Sep 3, 2016 at 1:19 PM
Subject: On Why Emerging Market Small-Caps?; Health Benefits of a Plant-based diet – Part IV!


Emerging markets have seen a remarkable turnaround in both sentiment and performance since the end of January of this year, advancing by 21% since then. As is almost always the case (the iron-clad rule of mean reversion at work again!) , extreme bearish sentiment prevailing over the prior three years (culminating in more than a trillion dollars of outflows since mid 2014) was quickly replaced by the current bullishness. As the market technician Mark Galaseiwski (and author of the Asia-Pacific Financial Forecast) observes, Reuters reported on January 20, 2016 that many participants at the 2016 Davos feared that “investment returns across the sector are unlikely to recover soon”. The MSCI EM index bottomed out the next day!. So where does one now look for opportunities in the EM sector? Mark Mobius and Chetan Sehgal from the Templeton EM team argue the case for the small cap sector. To summarise:

-EM small cap stocks continue to offer strong growth potential at attractive valuations, while being an overlooked sector due to misconceptions regarding their volatility, liquidity and scale as an asset class. However, EM small caps offer many advantage, structural and tactical for investors.

-Structurally, smaller EM companies provide exposure to areas which complement the large-cap sector, particularly in the health care and consumer areas which are driven by favorable demographics and a rising middle class. EM small caps are also under researched and under-owned by foreign investors , have ample liquidity, thereby providing numerous opportunities in terms of market inefficiencies.

-Tactically, the widespread sell-off across the EM space over the last several years has created attractive valuations, while having more local market exposure and lower correlation to the large-cap sector. However, they also carry higher risk (of principal loss) and more volatility than large companies. Looking ahead, with the sector evidencing increasing interest from global institutional investors, it offers an attractive risk/return profile over the coming years.

-The EM small-cap space comprises more than 23,000 companies with a aggregate market cap of $5 trillion and daily turnover of close to $60 billion., with broad liquidity of the sector approaching that of the large-cap space. EM small-cap stocks are disproportionately held by domestic retail investors who typically trade more often, and with shorter time horizons than foreign institutions, thereby boosting their liquidity.

-EM small-caps are only 3% of the MSCI EM index, while being 28% of the market capitalization of all emerging market companies.

-EM small-caps stocks are more prone to be overlooked by overseas investors as they are vastly under-researched, with many companies not being covered at all (see chart below). This creates various mispricing opportunities to be exploited.

-EM small-cap companies have greater exposure to domestic markets, driven by domestic demand, favourable demographics, local reform initiatives and innovative niche products. This results in differing exposure to sectors than the large-cap space as illustrated by the chart below, particularly in high growth areas like consumer discretionary and health care. By contrast the large-cap companies have greater exposure to financials, energy, information technology and telecom, which tend to be more affected by global and country-level macro trends events. They also have a larger weighting in state-owned companies which may not be as well managed.

-The market pricing inefficiencies prevailing in the EM small-cap sector can be best illustrated by India, which has a vast number of such companies and a notable skew towards ownership by domestic investors. During the 2008-2014 period, domestic retail investors in India allocated capital to real estate and gold, and any inflows from foreign institutional investors were made through index-based investments which were skewed towards the large-cap stocks. This is reflected in the 27% ownership by foreign institutions in the broad market index, while having only 13% exposure to the small cap index. So Indian small-cap companies are not only more exposed to the domestic economy, but to the local investor base as well.

-Therefore, from 2009 until 2013, the negative sentiment of domestic investors towards equities led to notable valuation discount of small-cap stocks to the large-cap sector. The sentiment change in 2014 with the election of the pro-business Narendra Modi led to a significant rerating in the valuations of small-cap stocks.

-In a global low-growth environment, EM economies continue (despite the slowdown in recent years) to offer considerably higher growth opportunities than the developed world. Investing in EM small-caps provide exposure to the fastest-growing companies in the fastest-growing economies globally. This growth is also more organic that growth driven by central bank induced macro-economic factors or financial engineering techniques like share buybacks (particularly in the US). In addition, the potential upside from being added to an index, increased research and being targets of M&A activity offer further upside opportunities. Given the higher risks in this sector relating to poor governance, poor quality of management and other factors, it is important to be able to identify the likely winners with thorough research or through an experienced manager with a long track-record.

Interesting piece which makes a forceful case for EM stocks in general, and the small-cap sector in particular. However, has the popularity of the asset class already reached excessive levels?

-Blackrock’s Global Chief Investment Strategist, Richard Turnill, wrote an interesting commentary recently:

-“The chart below shows where the crowds are, based on our analysis of fund flows, fund positioning and price momentum. We consider positions with scores between 1 and 2 (and -1 and -2) as popular, and those with scores above 2 (and below -2) as very popular. The higher the score, the more popular the overweight is. The lower the score, the more popular the underweight is. The most popular investments today: overweight U.K. government bonds (gilts), emerging market (EM) sovereign debt, developed market credit and gold, as well as underweight eurozone equities.

-“We advocate reducing popular positions where prices have moved beyond fundamentals (examples are gilts and bond-proxies such as utility stocks). We also would resist taking contrarian positions in sectors facing big structural challenges (e.g. European banks). But popular overweights with supportive fundamentals and valuations (such as EM debt and U.S. credit) are still worth considering (see chart below) , and gold can offer portfolio diversification benefits. Our overweight EM equity position doesn’t appear popular despite recent inflows into the asset class. Be mindful of the short-term risks embedded in consensus trades, and look for potential opportunities the crowds haven’t yet reached.

-Regarding exposure to EM small cap stocks, there are a variety of ETFs to choose from, but a fund with a solid long-term track-record could be a better alternative given the risks associated with small cap stocks. The Bloomberg chart below compares the performance of two such funds (the Templeton TEMMX:US fund-yellow line – and the Wisdom Tree DEMSX:US fund) versus the ETFs EWX and DGS. The outperformance by the two funds over a 5 year period is clearly exhibited. In addition, single country small cap ETFS and funds can offer interesting opportunities. While Indian small caps have had a great run since late 2013 (index up 121% versus 43% for the market index) and are prone to a short-term reversal, they continue to offer solid long-term upside potential. Other countries like Brazil (despite the recent move) , Russia and China also offer superior upside over the medium to long term.

Health Benefits of a Plant-based diet – Part IV:

-To follow-up on Part III which summarized some of the notable nutrients in pants ()from the Permanente Journal – a US based peer-reviewed journal of medical science, social science in medicine, and medical humanities), Part IV summarises the plant-based macronutrients (to be serialised further):

-All calories come from some combination of carbohydrates (4 kcals/g), proteins (4 kcals/g), and fats (9 kcals/g). Alcohol also provides calories (7 kcals/g) but is not considered an essential nutrient. The ideal ratio of intake of these 3 macronutrients is highly controversial and debatable. There is plenty of evidence supporting health and weight management benefits of low-fat/high-carbohydrate diets, as seen in the traditional Okinawan diet and in studies by Dean Ornish and Caldwell Esselstyn on the reversal of advanced coronary artery disease, and by Neal Barnard on the reduction of glycemia in type 2 diabetes using a plant-based diet with 10% of calories from fat. Similarly, the Mediterranean and many raw food diets consisting of upwards of 36% or more of calories from fat show consistently positive health advantages. Thus, it appears that it is likely the quality of the diet that is responsible for health outcomes rather than the ratio of macronutrients.

Carbohydrates: The Institute of Medicine’s adequate intake of carbohydrates is 130 g/d for everyone (except during pregnancy and lactation) beginning at age 1 year. Optimal sources of carbohydrates, such as wholesome vegetables, fruits, whole grains, and legumes, are high in fiber and nutrients. Refined carbohydrates from sugars, flours, and other processed foods can lead to malnourishment and promote illness.

Protein: Adequate intake of protein is based on weight and is estimated at 0.8 g/kg/d for adult. Protein is readily available throughout the plant kingdom, but those foods that are particularly rich in protein include legumes, nuts and nut butters, seeds and seed butters, soy foods, and intact whole grains.

Fats: Fats—or fatty acids—are more complicated because there are several different chemical varieties based on level and type of saturation. Each category of fatty acid performs different functions and acts uniquely in the body.

-The essential fatty acids are polyunsaturated and include both omega-3 and omega-6 fatty acids. Omega-3 fats are found in their shorter chain form as alpha linolenic acid and are used as energy. They are also converted by the body to the longer-chain EPA acid and then DHA acid. Because this conversion process can be inefficient, some people may require a direct source of these longer-chain EPA and DHA in the form of a microalgae supplement. AlA acid can be found in flaxseeds, hempseeds, chia seeds, leafy green vegetables , soybeans and soy products, walnuts, and wheat germ, as well as in their respective oils. A direct plant source of EPA and DHA is microalgae, through which fish acquire them. Plant sources may be superior because they do not contain the contaminants that fish contain, including heavy metals, such as mercury, lead, and cadmium, as well as industrial pollutants. Also, plant sources are more sustainable than fish sources.

-Monounsaturated fats are not essential but have been found to impart either a neutral or slightly beneficial effect on serum cholesterol levels, depending on which nutrient they are replacing. When swapped for saturated fats, trans fats, or refined carbohydrates, monounsaturated fats may lower low-density lipoprotein and raise high-density lipoprotein cholesterol. These fatty acids are found in olives, avocados, macadamia nuts, hazelnuts, pecans, peanuts, and their respective oils, as well as in canola, sunflower, and safflower oils.

-Saturated fats, as mentioned above, are not essential in the diet and can promote CVD. They are found primarily in animal products but are available in some plant foods, mostly in tropical fats and oils, such as palm and coconut, and also in other high-fat foods, including avocados, olives, nuts, and seeds. If a vegan diet contains an average of 5% to 6% of kcals from saturated fat, which is what the American Heart Organization recommends for a heart-healthy diet, any added serving of animal products will significantly increase the total intake.

-Trans fatty acids are laboratory-made via hydrogenation and are found in processed, fried, and fast foods. Although they were originally developed to be a healthy alternative to butter and lard, trans fatty acids were found to significantly increase CVD risk. In November 2013, the US FDA issued a notice that trans fatty acids were no longer considered safe and is now trying to eliminate artificially produced trans fatty acids (there are small amounts found naturally in meat and dairy products) from the food supply. Be aware that a nutritional label can state a food product contains “0 g trans fats” even if it contains up to 0.5 g per serving. Thereforefocus on the ingredient list on food products and to avoid anything with the words “partially hydrogenated.”

-Dietary cholesterol is a sterol that is found primarily in animal products. Although cholesterol is required for the production of hormones, vitamin D, and bile acids, the liver produces enough cholesterol on its own. Excessive intake of dietary cholesterol is associated with increased risk of CVD.

-Phytosterols, which are similar to cholesterol, are plant-based sterols found in all plant foods (especially wheat germ, nuts, seeds, whole grains, legumes, and unrefined plant oils). Phytosterols reduce cholesterol absorption in the gut, thereby optimizing lipid profiles. Together with viscous fibers, soy proteins, and almonds, phytosterols have been found to be as effective as statins in some studies in lowering low-density lipoprotein cholesterol.

-It is crucial to note that all whole foods contain all three macronutrients. It is a pervasive misunderstanding to identify a food as a “carb,” “protein,” or “fat.” Instead, these are all nutrients within a complex of other myriad constituents that are beyond the oversimplification perpetuated by the media and trendy diet fads. Ideally, a healthful diet is loaded with wholesome carbohydrates, moderate in fat, and temperate in protein. The emphasis must be on the quality of the totality of foods coming from whole plant sources as opposed to calculations and perfect ratios.

-Here’s to making careful note of the above paragraph and incorporating it in your daily diet!




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