Wasatch Best of Emerging-Markets Funds: Riskless ReturnMaria Levitov and Charles Stein
Roger Edgley is running the best emerging-markets stock fund of the past four years by picking small, high-quality companies from an office at the foot of the Wasatch mountains in Utah.
Edgley’s $1.7 billion Wasatch Emerging Markets Small Cap Fund returned 13 percent, adjusted for price swings, in the four years ended Jan. 28, best among 45 funds with at least $1 billion in assets, according to the BLOOMBERG RISKLESS RETURN RANKING. Edgley, 57, was able to beat all peers by producing the best absolute return with the 10th-lowest volatility.
“The quality approach is trying to buy BMWs at a reasonable price,” he said in a telephone interview. “The hardest part is trying to figure out if it’s a BMW.”
Edgley favors companies with a track record of profitability, high returns on capital, and a history of paying dividends while keeping debt levels low. The approach has allowed the fund to keep volatility low and beat rivals both when emerging-market stocks have been in favor and when they have been shunned by investors.
The Wasatch fund topped 97 percent of peers by total return in 2009 when emerging market stocks soared and 91 percent in 2011 when the MSCI Emerging Markets Index fell 18 percent, according to data compiled by Bloomberg.
“This fund has thrived over the shorter and long runs,” William Samuel Rocco, a Morningstar analyst, wrote in a January note on the firm’s website.
This year could be another good one for emerging-market stocks, Edgley said in a fourth-quarter note to shareholders, citing improving conditions in China and Europe.
“There is a case that 2013 will see returns reflective of an improved global economy,” he wrote in the note, which was also signed by co-manager Laura Geritz.
The MSCI Emerging Markets Index has gained 1.5 percent this year, trailing a 5.6 percent gain by the MSCI World Index. The developing-nations index trades for 11 times estimated profit, compared with the MSCI World’s multiple of 13.7, data compiled by Bloomberg show.
The $3.3 billion Invesco Developing Markets Fund placed second with an adjusted return of 8.3 percent. It had the sixth-highest absolute return combined with the sixth-lowest volatility. The $3.6 billion DFA Emerging Markets Small Cap Portfolio returned a risk-adjusted 8.1 percent, ranking it third.
The risk-adjusted return, which isn’t annualized, is calculated by dividing total return by volatility, or the degree of daily price variation, giving a measure of income per unit of risk. A higher volatility means the price of an asset can swing dramatically in a short period, increasing the potential for unexpected losses.
In emerging markets, small-cap stocks have had an advantage over the past four years. The Russell Global Emerging Markets Small Cap Index gained 24 percent a year in the four years ended Dec. 31. That compares with 20 percent annually for the MSCI Emerging Markets Index, which includes big companies such as Seocho-gu, Korea-based Samsung Electronics Co. Ltd. and China Mobile Ltd., based in Hong Kong.
The Wasatch fund has “done well relative to the group not just because small-caps have outperformed during that period,” Rocco said in a telephone interview from Bend, Oregon.
“They are strong, sustainable-growth investors,” Rocco said. “They pay a lot of attention to smaller emerging markets.”
The Wasatch fund uses a bottom-up process that focuses on finding individual stocks, with market values of less than $3 billion. The fund had 58 percent of its assets in companies based in Asia, including 17 percent in India, as of Dec. 31, according to the Wasatch website.
The fund has the flexibility to stray beyond the weightings in industries and countries of its benchmark, the MSCI Emerging Markets Small Cap Index. At the end of 2012 the fund had 6.8 percent of its assets in the Philippines, more than three times that country’s weighting in the benchmark, Edgley wrote in his fourth-quarter note.
“The Philippines is a very attractive country” on the inflow of investment and its domestically-driven economy, Edgley said in the interview. “We have more choice, more flexibility than a large cap investor there.”
Security Bank Corp., a Makati City, Philippines-based lender, was Wasatch’s biggest holding as of Sept. 30, according to data compiled by Bloomberg.
It’s a “well-capitalized, medium-sized bank that’s been able to grow its loan books across different sectors and it was under two-times book when we bought it,” Edgley said in the interview. “That combination of valuation, quality, good banking system, that’s what we are looking for.”
Book value is a measure of a company’s net worth calculated by taking the value of assets and subtracting the value of liabilities.
Security Bank plans to add 42 branches this year, bringing its total to 250 by year-end, and forecasts 10 percent to 15 percent growth in loans, President Alberto Villarosa said in a January interview. The shares have risen more than 10-fold over the past four years.
Universal Robina Corp., the largest Philippine maker of snack food, and the fund’s seventh- biggest holding, rose 12-fold over the same stretch. The Manila firm gained 62 percent in the past year.
The fund has about twice the benchmark weighting in Thailand, Edgley wrote in his fourth-quarter note. Like the Philippines and Turkey, Thailand has an economy that is driven by domestic spending, he said.
Home Product Center Pcl, Thailand’s biggest retailer of home-improvement hardware, is the fourth-largest position in the fund. In October the company, based in Nonthaburi, said it would add eight new stores in 2013, most of them outside Bangkok. The shares are up more than fourteen-fold over the past four years.
Another Thai firm, Siam Makro Pcl, is Edgley’s second-largest holding. The Bangkok-based firm, the biggest cash-and-carry wholesaler in the country, rose 73 percent in the past year.
Edgley’s stock-picking has been helped by an eclectic background. A native of the U.K., he lived in Hong Kong, London and Africa. He has three degrees from British universities: a bachelor’s degree in psychology and two master’s degrees, one in philosophy and another in social psychology and statistics.
Today he works in Salt Lake City, where Wasatch has its headquarters. The employee-owned company runs 19 mutual funds and says it doesn’t shy away from closing funds to new money to ensure top performance. Edgley’s fund is closed to new investors, though existing ones can still buy into it, according to the Wasatch website.
“Sitting next to the mountains, having a distance from the major financial centers helps,” Edgley said. “People get excited by certain themes. If everyone is talking about the same themes, how can you take advantage of that?”
For example, there is a common perception that Russia does not offer much in terms of small-cap stocks, said Edgley. “We’ve actually found some interesting companies there,” he said.
OAO M.video, a Russian electronics retailer of which his fund owns 1.1 percent, has more than tripled sales over five years. In a January interview with Bloomberg News, chief executive officer Alexander Tynkovan said he was preparing his chain for more online sales. “We can look to Europe to understand what to expect in Russia in two or three years,” he said.
The Moscow-based retailer’s shares have climbed about 10-fold over the past four years. The stock has a 12-month yield of 14 percent. Another retailer in the portfolio is Mr Price Group Ltd, a South African clothing and furniture chain. The Durban-based company started a program last year to attract more U.S. investors. Shares gained 43 percent in the past year, data compiled by Bloomberg show.
Consumer discretionary stocks represented 18 percent of Edgley’s portfolio as of Dec. 31, according to Wasatch. Only financials, with 22 percent, had a higher share.
While Edgley and his co-manager travel widely to meet with company executives around the world, it is difficult to be confident about some companies when one is so far removed from the emerging markets, he said.
The best way to avoid falling into a trap, he said, is to concentrate on businesses whose management, past history and profitability best equip them to weather different market conditions.
“The quality stocks will tend to be less controversial,” said Edgley.