30 August 2016

Has the hunt for yield reached emerging markets equity?

High valuations for U.S. stocks coupled with low interest rates and ample liquidity have driven a much-talked about search for yield. Thankfully, we have not yet seen a broad impact on higher-yielding stocks in the emerging markets, writes Stephen L. Kinney, Portfolio Specialist with Wells Fargo Asset Management.

Take utilities—often the prototypical dividend sector—as an example. Over the past 10 years, the average price/earnings ratio for the next 12 months (P/E NTM) for the utilities sector, within the S&P 500 Index, was approximately 14.5. However, the last time utilities saw that level was in December 2012, and the sector recently reached a 10-year high of 18.6, as of June 30, 2016. And that two-year high for utilities represents a two-standard deviation difference from the 10- year average.

Now let’s look at the utilities sector within the MSCI Emerging Markets Index. As you’ll note in the chart below, emerging markets utilities are actually trading at valuations that are approximately 1.5 standard deviations below their 10-year average. With utilities as a key example, clearly the search for yield has not yet affected the emerging markets equity space.

Rather than researching valuations on multiple sectors and comparing them side by side, investors may be better-served looking at the policy rates in individual countries to understand whether or not stock valuations have been affected by the search for yield. The largest components of the MSCI All Country World Index have policy rates at record lows—or even in negative territory—making higher-yielding equities potentially more attractive.

However, as the countries transition from developed to emerging in the list on the following page, the rates start to move north—beginning with China at 4.35%—and include other large economies such as India at 6.50% and South Africa at 7.00%. The highest policy rate for a country in the MSCI Emerging Markets Index is currently Brazil at 14.25%.

Local investors in these countries don’t need to buy equities to quench their thirst for yield, and international investors may also opt for debt, or fixed-income options, as opposed to equities.

S&P 500 Utilities and MSCI EM Utilities - Price to Earnings (NTM)

 

Countries' policy rates - Developed markets / Emerging markets

Potentially even more important than the current valuations of the stalwart dividend sector, or the individual policy rates, is the vast array of companies that pay dividends in emerging markets. Consider these statistics:

  • As of the end of 2015, 89% of the companies in the MSCI Emerging Markets Index paid a dividend.
  • Of that 89%, utilities led the pack with 100% of emerging markets utilities companies distributing cash back to shareholders.
  • The vast majority of names in every other sector in MSCI’s index also paid dividends, bottoming out at 84% in the industrials sector.

High valuations currently being experienced in utilities, REIT’s and other higher yielding sectors in the US are not necessarily congruent with valuations of similar sectors in the emerging markets. More importantly, if and when the hunt for yield does permeate emerging markets equities, investors have the opportunity to rotate to a plethora of names in a variety of sectors and industries.

Percent of emerging markets companies that paid dividends as of December 2015

CFA® and Chartered Financial Analyst® are trademarks owned by CFA Institute.

Wells Fargo Asset Management (WFAM) is a trade name used by the asset management businesses of Wells Fargo & Company. WFAM includes Affiliated Managers (Galliard Capital Management, Inc.; Golden Capital Management, LLC; and The Rock Creek Group); Wells Capital Management, Inc. (also includes First International Advisors, LLC and ECM Asset Management Ltd.); Wells Fargo Funds Distributor, LLC; Wells Fargo Asset Management Luxembourg S.A.; and Wells Fargo Funds Management, LLC.

This document is for your information only and is not an offer to sell, or a solicitation of an offer to buy, the securities or instruments named or described in this document. Interested parties are advised to contact the entity with which they deal, or the entity that provided this document to them, if they desire further information. The information in this document has been obtained or derived from sources believed by Wells Capi-  tal Management to be reliable, but Wells Capital Management does not represent that this information is accurate or complete. Any opinions or estimates contained in this document represent the judgment of Wells Capital Management, at this time, and are subject to change without notice. Wells Capital Management, Inc. and its affiliates may from time to time provide advice with respect to, acquire, hold, or sell a position in,   the securities or instruments named or described in this document.

Wells Capital Management is the trade name of the investment management services provided by certain subsidiaries of Wells Fargo & Company and marketed by Wells Fargo Securities International Limited and Wells Capital Management, Inc. Wells Fargo Securities International Limited is authorised and regulated by the U.K. Financial Conduct Authority.

Wells Capital Management provides investment advisory services to institutional clients. The rules contained under the Financial Services and Markets Act 2000 concerning the protection of Retail Clients does not apply, nor will the Financial Services Compensation Scheme be available.

For the purposes of Section 21, U.K. Financial Services and Markets Act 2000 (the “Act”), the content of this communication has been approved by Wells Fargo Securities International Limited, a regulated person under the Act.

The Materials are distributed by WFBNA DIFC Branch. WFBNA DIFC Branch is regulated by Dubai Financial Services Authority. WFBNA DIFC branch only deals with Professional Clients as defined by the DFSA.     First International Advisors LLC (FIA), a company formed in the State of Delaware with limited liability, is registered with the Securities and Exchange Commission in the USA and is authorised and regulated by the Financial Conduct Authority in the UK. FIA is an affiliate of Wells Capital Management, a member of the Wells Fargo group of companies.

Wells Capital Management (WellsCap) is a registered investment adviser and a wholly owned subsidiary of Wells Fargo Bank, N.A. WellsCap provides investment management services for a variety of institutions. The views expressed are those of the author at the time of writing and are subject to change. This material has been distributed for educational/informational purposes only, and should not be considered as investment advice or a recommendation for any particular security, strategy or investment product. The material is based upon information we consider reliable, but its accuracy and completeness cannot be guaranteed. Past performance is not a guarantee of future returns. As with any investment vehicle, there is a potential for profit as well as the possibility of loss. For additional information on Wells Capital Management and its advisory services, please view our web site at www.wellscap.com, or refer to our Form ADV Part II, which is available upon request by calling 415.396.8000.

Leave a Reply

Your email address will not be published. Required fields are marked *