Livewire | How Ox Capital is investing for a market reversal

Ox Capital CIO Dr Joseph Lai shares why investors should be looking beyond the strong US dollar and soft commodity prices.

The following was produced and published by Livewire on 23 July 2024.

Ox Capital’s Dr Joseph Lai believes things are changing – and that means investors will need to revisit crowding into developed markets to the exclusion of everything else.

“The US dollar is probably at its peak and then, inflation is going from deflation to inflation, which means higher interest rates in the long term. The valuation difference is huge between developed markets and emerging markets,” says Lai.

Lai also believes that the strong US Dollar and soft commodity prices are likely to reverse – a positive for emerging market equities.

That said, he cautions investors who stereotype emerging markets as simply commodity producers and says that the world is far more globalised now.

Some of the most prospective businesses in emerging markets reflect that of developed markets: big internet and AI companies or quality retailers for example are well represented in these markets.

In this episode of The Pitch, Lai discusses the outlook for emerging markets, why investors are underestimating these compared to developed markets and how he is positioning for the key opportunities he sees.

Edited transcript

Can you give us an outlook for emerging markets over the next six to 12 months and the key risks and opportunities you’re seeing?

We think emerging market equities are quite prospective from this point onwards. Emerging market equities have been an asset class that has done well in recent years, and a lot of the problem has been because of the strong US Dollar and low commodity prices. We think that going forward, these two factors are likely to reverse.

The timing is hard to know, but we think the reversal of the strong US Dollar and also the potential improvement in some commodity prices will be very positive to emerging market equities.

Have investors under-appreciated the potential of emerging markets compared to developed markets?

I think so. In the last decade or so, a lot of investors’ money has crowded into developed markets, and particularly to the growth bits of developed markets to the exclusion of almost everything else. The reality in our minds is things are changing.

The US dollar is probably at its peak and then, inflation is going from deflation to inflation, which means higher interest rates in the long term. The valuation difference is huge between developed markets and emerging markets. Emerging market equities are at a multi-decade discount to developed markets. Given the reversal of those macro factors and cheap valuations, we think it’s very very attractive.

The other element is actually that when people look at emerging markets from afar, they often think of them as an economy that is filled with commodity producers, heavy industries, maybe some banks, some property developers if you want, be adventurous. But the reality is that the world is quite globalised. 

Then the key – the big businesses and more prospective businesses are not that different to those of developed markets. The big internet companies in some cases, are AI companies, good retailers and technology companies. 

Those are really the interesting bits of these economies. They are reasonably represented in these economies. That may be something people don’t appreciate much with respect to emerging markets.

The stronger US Dollar has hit some of the emerging market countries quite hard. How do you see this continuing to play out?

In recent months, there’s been some concern about stronger for longer. That’s what people refer to as a stronger US dollar. 

US rates will likely come down in the next six to 12 months given that inflation is coming off and the US economy is weakening on the margin.

We think, instead of a headwind to emerging markets in recent years, it will quickly turn into a tailwind. The timing is always difficult, but I think it’s probably sooner rather than later. We think that the weakness in these markets is actually an interesting opportunity to accumulate these quality franchises of the future, which we so love.

Have you made any changes to your allocations based on that?

We are very bottom-up-driven in our approach in terms of identifying these quality franchises. At the same time, we’re cognisant of the macro and the top-down impact that they have on valuations. 

With a greater concern over the strong US dollar, we have been holding a bit of cash. When the concerns got worse, we deployed cash to try to buy these businesses at a lower valuation.

How are you positioned broadly at the moment, and do you expect this to change in the next six to 12 months?

We are quite positive on emerging markets, mainly driven by the factors we talked about – the reversal of the US dollar eventually and the cheap valuations that we are seeing. We are reasonably positive but also quite selective in what we own because we are cognisant of the risks that we see. The interesting thing is we talked a little bit about the political risks in the emerging market, but it’s pretty clear what’s happening in emerging markets. What’s uncertain is the political outcomes in the developed markets. We’re cognisant of those risks and our way around it is twofold.

One is to identify those companies that are relatively immune from a little bit of a slowdown or sudden change in the macro. These are again the quality franchises with a high likelihood of earnings, delivery and growth.

The second is to try to be nimble. If there is something untoward that happens in the market, it’s impossible to predict, but if it happens, we will take action very quickly.

During those two things, we want to manage the top-down risk and by choosing the good companies of the future, we are also trying to manage the bottom-up business risks and valuation risks.

At Ox Capital, we are focused on quality companies with long term growth which are available at inexpensive valuations across emerging markets. Current valuations are providing lots of interesting opportunities. Let us know if you would like to understand specifically where we are finding the opportunities!

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