Global Equity Spotlight Episode 16

Hello everyone and welcome back to Global Equity Spotlight, a series where we delve into interesting topics affecting equity markets. Today I have Jacques and Cornelius joining me. Thank you guys for being here. So let’s kick off. We’ve seen some really strong emerging market performance coming through from the back end of last year into this year. Obviously there’s been quite a concentrated market and maybe you can delve into that a little bit. But moreover, we’ve seen quite volatile performance in the last few months. Maybe you can also just give us some insights into what’s happening there.

Yes. So, emerging markets have had a very strong year. To the end of June, the market was up around 24%. It has of course given back some of that gains in July and August. But I think what’s been fascinating has been how narrow the rally has been, very concentrated in the semiconductors and memory names, with South Korea and Taiwan contributing more than 90% of the index performance. I think this is further highlighted if you look at the breadth in the market. So the breadth at the moment in the market is around 21% of companies outperforming the index, from a historic 40 to 50% range. And what this has meant is that the composition of the index has changed, where South Korea and Taiwan is now around 50% of the benchmark, with countries like China and India decreasing quite a bit. Of course, China has had to grapple with a prolonged property downturn, very low consumer confidence, intense competition in their e-commerce space. So earnings expectations have been quite subdued. And India is still one of the world’s biggest oil importers, so that’s affected their market, as well as elevated valuations. But this increase of South Korea and Taiwan in the index highlights a broader shift that we’ve been seeing the past two decades, where the index has moved from the traditional commodity-heavy type businesses to more e-commerce and technology type businesses. And if you think about those business models, they generally grow earnings quicker, they have high returns on capital. So the composition of the index has changed, where it’s not as reliant on commodity cycles anymore, but much more focused on globally competitive, innovation-type industries.

Brilliant. Thank you so much. So Jacques, you mentioned the memory names. Maybe you can give us an understanding of if you think this sort of performance is sustainable moving forward.

Yes. So the performance of the memory names like Samsung and SK Hynix have been spectacular. Up until June they were up roughly 800% over the last 12 months. Interestingly, the valuations, if you just look at the price-earnings metric on a 12-month forward basis, it’s actually come down, because the earnings have grown faster than the share price appreciation. So if you look at 2025 earnings for the memory companies as a whole, into 2026, it’s grown sixfold. So these companies are now out-earning the chip manufacturers like Nvidia and Broadcom and Taiwan Semiconductor, and very close to all the hyperscalers. And if you think about the hyperscalers’ profit contribution, the cloud businesses that are the main customer of these memory chips, they contribute 60% of the profits for a company like Amazon, 40% for Microsoft, and 20% for Alphabet. So the memory companies are earning double to triple what their customers are earning. And traditionally these companies are quite commoditised, and you can see they are all adding a lot of capacity over the next 5 to 10 years, and we’re seeing China really investing heavily in this space. We’ve seen a memory company in China, CXMT, doing an IPO recently, being up 500% on the day, and they now command a valuation of $500 billion, which is not far off a company like SK Hynix. So CXMT is now trading on 50 times trailing sales, 10 times future sales, whereas SK Hynix trades on three times forward sales.

So quite a few things to consider here. We don’t think the current profitability of these companies is sustainable on a three-year-out-plus view, but there’s a lot of visibility over the next 12 to 24 months, because they’ve signed long-term agreements with their customers, and demand is outgrowing the supply that’s being added. So we think the profitability will be extremely healthy over the next year or two, but after that we’ll probably see the traditional collapse. And if you look at it on a valuation basis, because these companies are so profitable, the valuation on a forward price-earnings basis is roughly around four times on current earnings. It has come down quite dramatically, because a company like SK Hynix has derated by 50% just in July, as they posted earnings and the share sold off — Micron, for example, in the US, has sold off only 30%. So on a valuation basis, these companies are now looking much more attractive. On a forward price-to-book basis, you can see how quickly it unwinds — it’s now 1.9, which is not far off where it traded traditionally, but just a month or two ago they were trading more than double where they usually trade. So we were underweight at that time, but we’ve used the sell-off to buy into the memory names, because we do think they’ll post very good profits and start returning money to shareholders, and there’s now much more valuation support.

Brilliant. Thank you so much for these insights, and really looking forward to seeing how this plays out. To the audience, thank you so much for attending, and we look forward to seeing you next time.