An investment theme that has been catching up after a tricky start to the year
This shift came at the expense of emerging zone themes which had been in vogue in 2010. Markets started to worry about the slower pace of emerging country growth and tighter credit conditions resulting from inflation- specially food inflation- which they felt was not really under control in the zone. From March 2011, numerous stocks exposed to emerging markets started to offer attractive entry levels after suffering a sell off. This was rammed home by first quarter results which highlighted their ability to generate organic growth and improve already impressive margins.
The luxury sector is the best example. Although Japan was no longer the sector’s biggest market and was in fact expected to post very soft growth, luxury was one of the hardest hit sectors in the aftermath of the earthquake. But official results have since shown that sales momentum for the sector’s leaders has not been thrown off course, particularly in China The tsunami nevertheless caused collateral damage to sectors like autos or technology which had also largely benefited from their exposure to the emerging zone in 2010. Supply chain disruption due to Japanese suppliers shutting down production, will certainly take a toll in 2011 and we have played safe by reducing exposure to companies that we consider to have been hit the hardest.
But the Fukushima accident has, paradoxically, also created opportunities as suspicions over nuclear power lead to the emergence of new energy policies. Groups that stand to gain from these new growth opportunities include BG Group which has large LNG capacities, Siemens which is an expert in gasfired power stations and ABB which manufactures smart electricity grids. In the recent past, worries that global, and especially US, growth might unexpectedly slow, coupled with fresh concerns over sovereign debt in the euro zone and generated a negative impact on both domestic and emerging market investment themes.
Growth differentials which make the theme attractive over the long term
Looking beyond justifiable short term concerns –it is now a fact that growth in emerging countries like China, Brazil and Russia has been slowing down since the end of 2010- we think the important point to note is that emerging countries are still growing much faster than developed countries. In 2011, GDP is expected to rise 1.5% in the euro zone compared to 6.8% in emerging countries as a whole. To date, all the growth indicators suggest that this spread will continue beyond 2011. European companies have, in any case, factored in a lasting growth differential in favour of developing economies. They not only stepped up investment in capacity but also considered the zone as an ideal place to make acquisitions.
Michelin will invest EUR 1.6bn in 2011-2015 in building production sites in China, Brazil and India to be able to provide competitive products on local markets. Vallourec teamed up with Sumitomo to invest EUR 1.2bn in an integrated tube factory in Brazil. Vivendi bought the Brazilian telecoms operator GVT and Casino expanded its presence in Thailand by acquiring Carrefour’s hypermarkets. And Schneider has just paid up to acquire China’s Leader & Harvest (medium voltage drives).
European companies with exposure to the zone enjoy pricing power that will be crucial in coming months
In an inflationary environment, the ability of a company to pass on higher costs to customers will make a big difference to both its operating results and stock market performance. Companies with significant exposure to the emerging zone have mostly managed to establish strong positions due to famous brand names and unique products that boast outstanding technological features. This gives them genuine pricing power and competitive edge as the local competition, particularly in China, India and Brazil, hots up. As well as LVMH and Burberry (luxury), Rémy Cointreau (spirits) and auto builders like Volkswagen, which is doing well because of its premium positioning, industrial groups like Siemens, Atlas Copco, ABB and BASF have the means to increase prices without hitting growth.