Expert: Ashish Chugh, Portfolio Manager, Global Emerging Market Equities, Loomis, Sayles & Company Facilitator: Niall Buggy
Headlines:
- There are investment opportunities in emerging markets if you understand how investors’ biases are enhanced in these markets
- Investor biases are enhanced in emerging markets due to the distances between traditional (western-based) investors
- Distance can be geographical as well as political, cultural, economic, and administrative
- Having a disciplined bottom-up process will help you avoid these biases and spot opportunities
- Investors tend to act like tourists in emerging markets: they gather around the highlights
Context:
Confirmation bias (seeking data to support our own beliefs) is a frequent problem in emerging markets as shown by an example of a Chinese telco. Investors continued to invest even though the fundamental data didn’t reflect the value of the company.
Investors sought data to confirm the growth story and did not conduct sufficient due diligence to identify the break between market and fundamental valuations. This can be avoided by building local contacts and knowledge sources.
There is also a risk of over confidence in investing in home markets due to access to data.
Herd mentality bias is following the ‘smart people’. The example given was a southeast Asian tech company held by many mutual funds, but due diligence hadn’t been carried out by many.
As part of your due diligence, you can use other investors to glean information – for example private and public equity investors and research for long-short funds.
Investors tend to chase Beta in emerging markets.
Must manage macro risk – can’t separate it from micro: look at what the debt markets are doing as debt investors’ approach is different to equity investors’ approach.
Importance of team – intense debates and discussions working on analyst’s research months before, and maybe years before, a stock comes into the fund.
Screening team members is important in the hiring process: cognitive diversity is a problem in the industry.
Attitude and curiosity are important as is a willingness to collaborate and challenge across the team.
Challenge is not just about stock picking, but also risk management.
Willing to miss opportunities (regret risk) by trusting the process and holding a small portfolio (c. 40 positions)
Anchoring bias (focus on latest information) - history often rhymes, but we shouldn’t anchor ourselves to it
Information bias – errors in observation, and “missing the wood from the trees”. A good example is China’s shift from a one-party system to a one-person system led to a negative change in the outcomes of Chinese corporations
Biases may be driven due to allocators not wanting to buy funds unless they are widely held.
It can be seen as a career or corporate risk by stepping out from the herd: incentives do not support.
Structure of fund is a bias as well; fund of funds structure removes some of the career risk.
Looking for unusual performance could be a signal of something going wrong. Fund blow-ups that have happened started to behave in a way that wasn’t what was described on the tin.
Key takeaways:
- A strong process and team help avoid the biases
- Rigorous, bottom-up financial models, and debating leads to as much independent decision making as possible
