As the S&P 500 remains near the all-time highs so far tested in January 2018, September 2018, and again last month in April 2019, I again hear many concerns from clients and colleagues against "getting into the market at these levels". Fortunately, I have a natural tendency to look away from what "everyone else is buying" and try and find the best values in quality sectors of broader listed markets that don't get as much attention.
As Howard Marks famously illustrated in his 1993 letter to clients, you don't make money just by being right, you have to be right and non-consensus. It is mechanically easy, even if emotionally behaviorally difficult, to identify non-consensus investments by their high yields and cheap valuations, but somewhat harder to also be right about their quality and avoid value traps.
One can diversify away from the S&P 500 in several steps, starting with domestic small caps, then developed foreign markets, then emerging markets, as I outline in my book "Invest Outside the Box". One way of gauging sentiment in individual emerging markets is to look at the relative discount/premiums of closed-end funds tracking those markets, as I explain in this 2017 article. More recently, US investors have been buying more emerging market exposure through broad emerging market index funds and ETFs like the Vanguard FTSE Emerging Markets ETF (VWO) or iShares Core MSCI Emerging Markets ETF (IEMG). One limitation of these broad emerging market ETFs is that they are weighted about 40-50% to Greater China (Mainland China + Taiwan + Hong Kong + Macau), with relatively little allocated to smaller markets that may have higher yields and growth potential. In fact, the China portion of these broad emerging market ETFs is still several times the size of assets held by China focused ETFs.
Looking beyond the largest and most heavily weighted markets, four markets I find especially attractive at current levels happen to fit the high-yield-sounding acronym "RENT": Russia, Egypt, Nigeria, and Turkey.
Economic overview of RENT economies
Of the four RENT economies, Russia is by far the largest at around 3% of global GDP, but declining. Nigeria, on the other hand, is the fastest growing of these four economies, having risen from 0.5% to 1% of global output over the past two decades, while Turkey and Egypt have each held steady at around 1% each of the global economy.
Source: Google Public Data
Russia: Discount to Canada Still Overdone
Russia is the only RENT market that overlaps with BRIC, and I described it in my 2019 BRIC outlook as still "too cheap to ignore". Russia is also the only one of the four economies experiencing long-term economic decline, though like Japan and opposite to Nigeria, a large factor in this is Russia's declining population.
Earlier, I compared Russia to Canada, pointing out both markets as being dominated by oil and mining companies and the banks that finance them. On a macro level, Russian earnings took big hits in 2008-2009 and again in 2014-2015 when oil prices fell, so the most obvious risk to watch out for would be another big drop in commodities prices. At 5-6x trailing earnings and 2-5x trailing cashflows, however, Russian stocks are already priced for pretty dismal scenarios.
Because of the complimenting large and small cap versions and better sector balance, I prefer to allocate to Russia via VanEck Vectors Russia Small-Cap ETF (RSXJ) and VanEck Vectors Russia ETF (RSX) rather than the iShares MSCI Russia ETF (ERUS). Even after the ~12% rally year to date, these Russia ETFs still support a dividend yield of around 5% covered several times over by cashflows. Drilling down to individual names, I have been accumulating shares of Sberbank (OTCPK:SBRCY), which has a similarly high yield with arguably an even better balance of consumer and commodity risk than the large cap ETFs.
Egypt: Still Old Economy, But Growing
Egypt is the smallest of the four RENT economies, and likely the one readers are most likely to consider more as a tourist destination than an investment destination. Egypt is especially known for its ancient history, including as an economy that provided grain to ancient Rome, publicity for Napoleon, and non-Confederate cotton to Victorian Britain. A more modern metric I look at as a measure of Egypt's economy is the development and growth of the city of Cairo, especially as it has sprawled around the pyramids.
The main ETF for accessing Egypt is the VanEck Vectors Egypt Index ETF (EGPT), and its holdings are clearly "old economy" with a focus on materials, banks, construction, fertilizer, and food, lacking even a tech company like Russia's Yandex NV (YNDX). EGPT does not seem to hold one of Egypt's most international construction companies, Orascom, which famously helped finance the Ryugyong hotel in North Korea.
Unlike Russia, Egypt (as well as Nigeria and Turkey) have young and growing populations, and THE main question in their economic future is how well they employ them. Global news focuses on Sisi's reforms, but I find it useful to look at other metrics, like the satellite one mentioned above.
EGPT's has a relatively low and unsteady dividend, but seems to trade at less than 6x trailing earnings and 3x trailing cash flow, so again, is mostly attractive for its cheap valuation.
Nigeria: Africa's Rising Consumer Superpower
Of the four RENT markets, Nigeria is probably the one I am most bullish at the moment for at least three reasons: demographics, technology, and China.
Demographically, Nigeria has the largest population of these four countries at just over 200 million, half of which are still under the age of 18. Having Nigeria's population pyramid in 2019 means very different things than it did in 1919 when energy technology, transportation infrastructure, and mobile phones were all far more primitive. It may be a bit of a leap, but I see the combination of Nigeria's demographics and its adoption of technology as paving the way for it to become the undisputed "China of Africa" in the coming decade or two.
The main ETF for accessing Nigeria is the Global X MSCI Nigeria ETF (NGE). Since I long knew Nigeria as a major oil economy and OPEC member, I was pleasantly surprised to find that NGE was not, as I expected, dominated by big oil, but rather banks followed by 1/3 in consumer staples. Two top consumer names that stick out to me are Nestle Nigeria Plc and Nigerian Breweries Plc, and these two names alone were major reasons I picked up this ETF. It helped that it trades at a discount to book value and sports a healthy dividend yield well above 5%.
On the flip side, Nigeria is the only one of the four RENT countries I have not personally visited, but rather know as the country where my wife grew up and had to go to school in armored buses. She has so far not agreed to let us take our family summer vacation to Nigeria to see where she grew up, and I'm not sure if such an experience would make me more or less bullish than my view from behind a spreadsheet.
Turkey: Still a Keystone Between Europe, Asia and Africa
Much of the focus on Turkey lately has been on its politics, and I admit I may be a bit out of touch with its politics in the 10 years since I last visited Turkey. Back then, a colleague explained to me that politics' biggest impact for investors was that large budget deficits kept real interest rates in Turkish lira high, even after inflation came down from the ridiculous inflation of the 1970s, 1980s, and 1990s that led to its 2005 revaluation. These high real interest rates helped banks stay more profitable than they otherwise would be, without having to take on too much real credit risk. Banks make up about one quarter of the iShares MSCI Turkey ETF (TUR), and at 6-7x earnings and cash flow, I believe the broad ETF is a safer bet than higher yielding telecom Turkcell Iletisim Hizmetleri A.S. (TKC).
George Friedman named Turkey as a likely returning superpower within the 21st century in his 2009 book The Next 100 Years, and I believe it's important to compare current political uncertainty with Ottoman precedents before overlooking this high-potential economy.
Other markets I looked at
In researching the RENT basket, I tried not to be too constrained by the catchy acronym, and also looked at the following single country ETFs as "runners up":
Pakistan: I first reviewed the Global X MSCI Pakistan ETF (PAK) when it launched four years ago, and after a >60% decline from its high two years ago, PAK now trades at less than 8x earnings. While I have long watched this one as a potential diversifier to India, I still see Egypt as a similar market with better fundamentals and less of a "falling knife". I am optimistic that India-Pakistan tensions will cool longer term and this economy will do especially well, but I would like to see more sector diversification before I buy into PAK.
Argentina: I can't stop thinking of Argentina as the "serial defaulter of South America", and would consider it one of the most contrarian bets on earth at the moment (after Venezuela and Syria, perhaps) if I had some more comfort with the fundamentals. The top holdings of the main Global X MSCI Argentina ETF (ARGT) is MercadoLibre Inc. (MELI), which may as well be bought directly rather than through an ETF.
Colombia: This South American economy took off after its index of monthly kidnappings fell from over 300 per month to less than 30 in the early mid-2000s, but the Global X MSCI Colombia ETF (GXG) hasn't recovered much from its >50% decline in 2014-2015. Of the three runners up, this one was the most likely to make this list, which would have turned the contrarian acronym into "CoNTRE".
While there's certainly more to being a contrarian than simply buying cheap "burning buildings", I believe each of the four RENT markets are priced for significantly more upside than downside, and pay well while you wait. All struggle with some degree of corruption and political uncertainty, but as I explain in the Russia-Canada comparison, even these have a price, which I believe are over-discounted at these levels. For the three markets other than Russia, you also have large, young, growing populations to fuel future growth rates even China may soon not keep up with.
Tariq Dennison is the founder of GFM Asset Management, a Hong Kong based, US Registered Investment Advisor, and author of the book "Invest Outside the Box"
Disclosure: I am/we are long RSX, RSXJ, EGPT, NGE, TUR, SBRCY, IEMG, VWO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.