The financial sector is one of the best barometers of growth in emerging market economies.
This is according to Chetan Sehgal, a manager of the Templeton Emerging Markets Smaller Companies fund, where his financials exposure is 14.9% against 8.9% in the MSCI Emerging Markets Small Cap Index benchmark.
One of the names the fund manager finds attractive in the sector is Indian Federal Bank, a mid-sized bank covering regional markets, for example the state of Kerala.
‘The strong focus and management has seen Federal Bank successfully grow its SME business and improve profits.’
Another company from the sector, Bajaj Holdings and Investments, currently has the biggest weight in the portfolio at 3.57%.
Sehgal said it is a holding company that focuses on two-wheeler/three-wheeler manufacturing through Bajaj Auto as well as owning finance company Bajaj Finserv.
‘The company’s diversified business is attractive: the two-wheeler business will benefit from India’s motorcycle penetration and premiumisation while the finance business, which includes insurance, lending and consumer finance services, has seen strong growth and profitability.’
The fund manager said the best small-cap opportunities can be found in consumer-related, industrial and healthcare areas.
He added that through these sectors investors can access small but fast-growing profitable companies that benefit from increasingly wealthier consumers in emerging markets.
One example of a consumer discretionary company in the portfolio is a Taiwan-based Merida Industry. The company that produces premium bicycles and is in the top ten holdings of the fund with 1.39% of exposure.
The current cash position of the fund is quite high at 11.45%, however Sehgal said it is not reflecting the lack of opportunities in the sector.
‘We want to ensure that cash is invested solely in bargains that meet our investment criteria. At any one point in time we have adequate outstanding buy orders so that we are fully invested in our high-conviction ideas.’
Away from China
Sehgal is currently underweight Chinese names, where he has 8.47% exposure versus 17.8% in the benchmark.
The fund manager said this positioning is driven by bottom-up stock selection and the fund invests in many non-Chinese companies that are benefiting from the increasing Chinese demand.
‘Many of them are not based in China but could be found in other markets such as Hong Kong, Korea and Taiwan. Thus we feel we are adequately exposed to the Chinese consumer as well in our portfolio.’
Templeton Emerging Markets Smaller Companies returned 30.9% in Swiss franc terms over the last three years to the end of May 2017. Its benchmark, MSCI EM (Emerging Markets) Small Cap TR USD, returned 12.96% over the same timeframe.