Fund Spotlight: buying India over China pays off for this fund

This week is United Nations Global Goals Week, celebrated annually to raise awareness and mobilise action as the target date for the United Nation’s 17 Sustainable Development Goals (SDGs) approaches in 2030. These goals collectively provide a map to achieve a better and more sustainable future for all, ranging from battling poverty to keeping air clean in towns and cities.

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However, there is a significant funding gap, with levels of investment significantly lower than needed to address such complex sustainable development challenges, especially in emerging markets.

A strongly aligned sustainable approach to emerging markets

Stewart Investors Global Emerging Markets Sustainabilityfund,throughits fundamental investment process and pursuit of high-quality sustainable opportunities, presents a lesser-trodden geographic allocation for emerging market investors.

The strategy benefits from a strong team of 11 analysts, led by co-managers Sujaya Desai and Jack Nelson, all with deep knowledge of emerging markets. The team employs a long-term conservative investment approach. It seeks companies with low-risk future cash flows and high-quality management teams, which are well positioned for strong capital growth and both contribute to and benefit from sustainable development.

Stewart Investors boasts one of the most entrenched and successful sustainability philosophies in the industry with an approach to environmental, social and governance (ESG) ingrained across all team functions and investment strategies at the firm and a high standard of active engagement. Stewart Investors has also earned the Morningstar ESG commitment level of ‘Leader’ and is one of only eight firms to receive the highest rating.

The fund utilises a “bottom-up” approach, which means it pays little or no attention to the wider economic backdrop, and instead focuses specifically on the fundamentals of a business. Among the attributes the fund managers look for in companies are quality of management, financial performance, social and environmental impacts, and responsible business practices.

Although the strategy does not explicitly employ negative screening (avoiding investing in certain companies on sustainable grounds), the bottom-up approach ensures that companies involved in activities such as weapons, tobacco, fossil fuels, alcohol and gambling are excluded.

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Thefundhas a compelling ESG-focused mandate that is diligent in its commitment to securing a more sustainable future through ensuring quality and integrity of its investments. The strategy achieves this by mapping investments against the SDGs to measure the positive impact a company is making.

Using the tool shown below, the managers can more clearly measure the contributions a company makes to any of the 17 SDGs. For example, 23 out of 53 companies in the portfolio contribute to Goal 3: Good Health and Wellbeing, while 21 contribute to Goal 8: Decent Work and Economic Growth.

A recent addition to the portfolio, contributing to Goal 8, as well as Goal 1: No Poverty, was Aavas Financiers, provider of mortgage loans to low- and middle-income communities in rural India. A company with limited competition, strong foundations for growth and a commitment to providing affordable and accessible finance to rural communities.

Source: Stewart Investors. Portfolio Explorer.

What does the fund invest in?

The portfolio owns between 30 and 75 companies (currently 53) with a large-cap, growth bias. The Consumer Staples, Technology and Financial Services sectors dominate at over 65% of the fund. There is a heavy weighting to emerging Asia, with just under half the portfolio invested in India (43%).

It is notable that the fund is light in China, at less than 10% versus over 30% for the benchmark MSCI Emerging Markets index. High levels of state control and lower conviction about management standards means Stewart can find higher-quality sustainable options outside China.

Instead, India is perceived as a landscape of rich, sustainable and long-term capital growth opportunities, driven by a growing middle class, technological adoption and emergence as a manufacturing hub.

The fund’s top three holdings are Mahindra & Mahindra Ltd DR (LSE:MHID), a leading provider of automotive, farm and services businesses (5.63%); HDFC Bank Ltd ADR (NYSE:HDB), India’s largest private sector bank (5.14%); and Tube Investments of India, an engineering and manufacturing company specialising in bikes and chains (4.3%).

Earlier this year, managers removed three holdings from the portfolio, including Estun Automation, a company particularly exposed to China, due to its highly capital-intensive nature and vulnerability to economic cycles. Fund managers saw limited opportunity for further growth and were happy with the exit valuation.

How has the fund performed?

The fund has a long track record and has delivered a five-year return of 14.9%. Over three and five years, the fund has both outperformed emerging market peers and its benchmark. Over three years it has returned 6.5% compared to -0.5% for the sector average and 1.3% for the benchmark. Over five years it is up 14.9% versus 5.2% and 7.7% for the sector and benchmark respectively. It has also been less volatile than the sector average, limiting downside risk.

The fund’s performance owes a great deal to regional positioning in favour of India, which has enjoyed multiple expansion over the past year (reflected in the portfolio), as well as clever stock picking in the technology and industrials sectors.

Source: Morningstar Total Returns (GBP) to 31/08/2023.

Why do we recommend this fund?  

Stewart Investors Global Emerging Markets Sustainability fundis well positioned for investors wanting high-quality growth and geographic diversification to emerging markets, while ensuring alignment with sustainable development objectives. The fund offers a markedly differentiated geographical composition versus peers and has historically provided investors with a smoother ride in terms of risk.

Investing in emerging markets can create extra risk, due in part to differing regulatory frameworks and heightened political volatility.

Leveraging the skill and resource of this capable management team can help navigate the complexities of this landscape, but investors should also be aware of the risks posed by the concentration and geographical bias of the portfolio.

The fund is included in interactive investor’s ACE 40 investment ideas list as a Core sustainable offering for emerging market investors. Please find the factsheet attached.