| Passport founder and CIO John Burbank. Photo: Bloomberg News) |
John Burbank III, the founder and CIO of Passport Capital in San Francisco, was once an emerging-markets bull who invested heavily in companies that stood to profit from China’s rapid industrialization. “Be long what China is short” is how he describes his $3.8 billion macro fund’s biggest investment theme of 2010 and 2011. That meant go long gold and resources as well as commodity producers. But in the past two years he has reversed course.
“For the most part, the emerging-market growth story is over,” says Burbank. Passport’s portfolios now reflect his new beliefs: Industrial growth in China has played out as an investment theme, but it’s time to buy into the rising consumer and service sectors in China and other emerging markets.
The hedge fund industry itself grew alongside emerging markets over the past two decades. So for fund managers whose specialty has been discovering the best mispricings in the fastest-growing parts of the world, this looks like the end of an era. It isn’t just that GDP growth has slowed in China and other emerging markets around the world. The so-called BRICs (Brazil, Russia, India and China) and many of the emerging countries, especially in Asia and Latin America, are still growing faster than the developed world, so an investor can still make money there. But so many investors have blazed through those regions that the equity markets have become the financial explorer’s equivalent of a well-trodden path, with not much price discovery left. When Stephen Mandel Jr. of Greenwich, Connecticut–based Lone Pine Capital announced to his investors in his third-quarter letter that he was going to merge his emerging-markets equity strategy with another equity fund, one of the reasons appears to have been the difficulty of finding enough undervalued emerging-markets stocks to keep a stand-alone fund going. Other fund managers are finding that they have to seek niches.
Burbank, as a global macro manager, has never been strictly tied to emerging markets, but he has made his name with cutting-edge ideas. While in the past year Passport has taken short positions in some of the same emerging markets Burbank used to trumpet, mostly by shorting the indexes, he has also been looking for specialized pockets of growth for long positions. Burbank says he believes Chinese Internet companies, to name one sector, are likely to take off in the next few years as China’s growing consumer base makes heavy use of mobile devices and e-commerce. Among the flagship Global Strategy fund’s recent top holdings as of July, according to investor materials, are the Chinese search engine Baidu and the software company Qihoo 360 Technology Co. The strategy is up 17.64 percent year to date through September.
One emerging market that is gaining interest among hedge funds managers, however, is the Gulf Cooperation Council, the political and economic union comprising the states that border the Persian Gulf: Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates. Saudi Arabia, which represents more than 40 percent of the GCC economy and 49 percent of the region’s equity market capitalization, is now Passport’s largest emerging-markets exposure. A top holding is Etihad Etisalat Co., which sells mobile telecommunications services.
Marko Dimitrijevic, founder and CIO of $1.8 billion Everest Capital in Miami, has also been rethinking his emerging market views — and also sees Saudi Arabia as a big opportunity. “The domestic economy and the consumer are benefiting from strong government infrastructure spending and job creation,” he says. He is also finding opportunities in specific sectors of emerging markets, including educational companies in Brazil and infrastructure companies in Mexico.
Everest has been around since 1990, making it one of the oldest emerging-markets hedge funds, as well as a survivor of the Russian debt default of 1998. At that time, Russia was more a frontier market than an emerging market, says Dimitrijevic. Today he says that in spite of the risks, those who don’t make a beeline for frontier markets will miss the best opportunities.
“You have to accept the fact that some emerging markets have emerged,” says Dimitrijevic. As he sees it, even frontier markets are not all that untapped now. “We are actively monitoring over 60 frontier markets, and the average market cap of companies we are investing in in those markets is $2 billion,” he says. “We find enough opportunities in the larger-cap stocks that we don’t have to go to illiquid microcaps.” The flagship Everest Capital Global fund rose 16.5 percent year to date through September, according to a person familiar with the firm.
A year ago, Everest was investing in many Chinese stocks. Now, however, Dimitrijevic is more cautious about China, as he is concerned about the political uncertainties under the Xi Jinping regime. One of the countries he likes now is Romania, which is capturing some of the low-cost manufacturing that drove China’s growth 20 years ago. “Labor costs in Romania are now less than in eastern China,” he says. “And Romania is a member of the European Union, so it’s much easier for Western European companies to have factories there than in Asia.”
Dimitrijevic says Serbia is also an interesting market, with export-led manufacturing in the auto industry for such companies as Fiat.
