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The Future of Emerging MarketsBoca Country Club
February 28, 2018
Alibaba HQ, Hangzhou, China
2
The Speakers
Dr. Burton G. MalkielDr. Malkiel serves as an Advisor to the EMQQ Index Committee. Dr. Malkiel is the
Chief Investment Officer of WealthFront and a long time Professor of Economics at
Princeton University. He is widely considered one of the pioneers of index investing
and ETFs. He has served as a member of the Board of Directors of Vanguard, Dean
of the Yale School of Management and as Chairman of the Princeton University
Economics Department. Dr. Malkiel is also well known for his seminal work A Random
Walk Down Wall Street. Dr. Malkiel holds B.A. and MBA degrees from Harvard and a
Ph.D. from Princeton University.
Kevin T. CarterMr. Carter is the Founder of Big Tree Capital an investment manager focused on
Emerging & Frontier Markets and of The Emerging Markets Internet ETF (NYSE:
EMQQ). Previously, Mr. Carter was the Founder & CEO of AlphaShares, an
investment firm offering five Emerging Markets ETFs in partnership with Guggenheim
Investments. Mr. Carter was also the Founder & CEO of Active Index Advisors
acquired by Natixis in 2005 and the Founder & CEO of eInvesting acquired by
ETRADE in 2000. Mr. Carter received a degree in Economics from the University of
Arizona in 1991 and began his career in 1992 with Robertson Stephens & Company.
The Case for Emerging Markets
Dr. Burton G. Malkiel
4
Figure 1 - Emerging Markets are 85% of the World
5.6x6,205,000,000
1,095,000,000
-
1,000,000,000
2,000,000,000
3,000,000,000
4,000,000,000
5,000,000,000
6,000,000,000
7,000,000,000
Emerging & Frontier Markets Developed Markets
World Population
5
Figure 2 - Emerging Markets are Passing Developed Markets
Source: IMF, World Economic Outlook database. April 2017
6
Figure 3 - Emerging Markets Will Dominate by 2050
Developed & Emerging Market GDPs 1950-2050
Source: Data from World Bank and The World in 2050, PricewaterhouseCoopers 2008
LINK TO
GAPMINDER
7
Figure 4 – IMF GDP Growth Forecasts
Region 2018 2019
Developed Countries 2.3 2.2
United States 2.7 2.5
Euro Area 2.2 2.0
Japan 1.2 0.9
Developing Countries 5.1 4.8
Brazil 1.9 2.1
Russia 1.7 1.5
India 7.4 7.8
China 6.6 6.4
World 3.9 3.9
8
Figure 5 - Demographics Favor Emerging Markets
Ratio of Working-Age to Non-Working Population
2010 - 2025
Developed Economies Emerging Economies
U.S. Germany Japan China Brazil India
2010 2.0 2.0 1.8 2.6 2.1 1.8
2015 1.9 1.9 1.5 2.7 2.2 1.9
2020 1.8 1.8 1.4 2.5 2.3 2.0
2025 1.7 1.6 1.4 2.4 2.2 2.1
9
Figure 6A – Economic Growth and Equity Returns
Be Wary of the Allure of High Economic Growth
10
Figure 6B - Economic Growth & Equity Returns: Be Wary
Source: World Bank, MSCI, Morningstar: Dimensional Fund Advisors, Economic Growth and Fund Returns.
August 2016
Annual GDP Growth vs Equity Market Excess Returns
11
Figure 7 - Valuation for Global Equity Indexes
Diverging
Again?
12
Figure 8 – U.S. Markets – Cyclically Adjusted P/E
16.4%
15.2%14.3%
11.8%11.1%
9.7% 9.5%
7.9%7.0%
3.7%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
1st 2nd 3rd 4th 5th 6th 7th 8th 9th 10th
Median ten year annual compound total returns from historic P/E deciles 1926 to date
Ten years out
Stocks cheap Stocks expensiveDECILES
P/E Decile
P/E Range for
decile
1 Below 10.6x
2 10.6x to 11.6x
3 11.6x to 13.3x
4 13.3x to 15.1x
5 15.1x to 16.8x
6 16.8x to 18.2x
7 18.2x to 19.8x
8 19.8x to 21.6x
9 21.6x to 25.1x
10 25.1x and above
13
Figure 9 - Shiller PE Ratio of the S&P 500
1890 1990 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010
45
40
35
30
25
20
15
10
5
0
Black Tuesday
Black Monday
33.04
As of 2/21/2018
14
Figure 10 – MSCI EM Shiller PE/CAPE
15
Figure 11 – MSCI China Shiller PE/CAPE
16
Figure 12 – 2017 Standard & Poor’s SPIVA Report
▪ Percentage of Active Funds outperformed by the S&P
Emerging Market Index
One Year to June 2017 75.4%
Three Years to June 2017 80.2%
Five Years to June 2017 75.3%
Ten Years to June 2017 87.9%
Fifteen Years to June 2017 95.2%
17
Figure 13 – Active EM Equity Funds vs. MSCI EM Index
Source: Morningstar & Vanguard Group
Worse than MSCI: 87% Better than MSCI: 13%
10 Years ending Dec 2013 (net for fees, including survivorship bias)
Problems with Traditional
Emerging Markets ETFs and
Indexes
Kevin T. Carter
19
What are Emerging Markets?
Emerging Americas Emerging Europe Emerging Africa Emerging Middle East Emerging Asia
Brazil Czech Republic South Africa Egypt China*
Chile Greece Kenya Qatar India
Columbia Hungary Mauritius United Arab Emirates Indonesia
Mexico Poland Morocco Bahrain Korea*
Peru Russia Nigeria Jordan Malaysia
Argentina Turkey Tunisia Kuwait Pakistan
Croatia Lebanon Philippines
Estonia Oman Taiwan
Lithuania Thailand
Kazakhstan Bangladesh
Romania Sri Lanka
Serbia Vietnam
Slovenia
Emerging Markets
Frontier Markets
Source: MSCI Classifications as of June 2017
*MSCI & FTSE
Disagree
20
#1 Problem: State Owned Enterprises (“SOEs”)
▪SOEs are companies owned and controlled by the
government in order to partake in commercial
activities on the government's behalf
▪State Owned Enterprises: – Conflicts of Interest
– Inefficient
– Poor Corporate Governance
– Widespread Corruption
▪ Largest Emerging Market ETFs have ~30% in SOEs- Does not include Korean Chaebol & Russian Oligarchs
21
#1 Problem – State Owned Enterprises (“SOEs”)
~30% of EEM & VWO are SOEs
22
SOEs: Chinese Economic Fugitives
Source: South China Morning Post.
23
Korean Chaebol
Source: The Wall Street Journal.
24
#2 Problem: Country Definitions and Weights
▪Weightings are Skewed – Towards Developed Countries (Korea & Taiwan)
– Towards Legacy industries
– Away from Entrepreneurial Growth Opportunities
25
GDP per capita
(current US$)
50,000
45,000
40,000
35,000
30,000
25,000
20,000
15,000
10,000
5,000
0
Stage 2: Transitional
Stage (Specialization,
surpluses, infrastructure)
Stage 1: Traditional
Society (subsistence,
barter, agriculture)
Stage 3: Take Off
(Industrialization, productivity
advances, growing investment)
Stage 4: Maturity
(diversification, innovation,
investment, consumption)
Stage 5: Mass Consumption
(Consumer goods flourish,
dominant service sector)
Chile Hungary
Poland
Czech Rep.
Turkey
Korea
1,000
millions
= 100
= 10
Taiwan
Morocco
United States
Argentina
= Developed
= Emerging
= Frontier
VietnamKenya
Croatia
Romania
Nigeria
Brazil
United
Kingdom
GermanyJapan
Malaysia
Hong Kong
Qatar
Singapore
Kazakhstan
UAE
Saudi Arabia
Denmark
Oman
Israel
Questions about EM Index Weights
Bangladesh
Kuwait
China
Mexico
IndiaEgypt
ColombiaPeru
S. Africa
Philippines
TunisiaThailand
Indonesia
Russia
Stage
1
Stage
2
Stage
3
Stage
4
Stage
5
26
Questions about EM Index Weights
1,267,300,000
51,202,130 23,374,000
-
200,000,000
400,000,000
600,000,000
800,000,000
1,000,000,000
1,200,000,000
1,400,000,000
India South Korea Taiwan
Population
54x25x
Source: World Bank.
27
Does This Make Sense?
7%
15%
13%
0%
2%
4%
6%
8%
10%
12%
14%
16%
India South Korea Taiwan
Weight in iShares Emerging Markets ETF (EEM)
Source: www.ishares.com.
28
GDP per capita
(current US$)
50,000
45,000
40,000
35,000
30,000
25,000
20,000
15,000
10,000
5,000
0
Stage 2: Transitional
Stage (Specialization,
surpluses, infrastructure)
Stage 1: Traditional
Society (subsistence,
barter, agriculture)
Stage 3: Take Off
(Industrialization, productivity
advances, growing investment)
Stage 4: Maturity
(diversification, innovation,
investment, consumption)
Stage 5: Mass Consumption
(Consumer goods flourish,
dominant service sector)
Chile Hungary
Poland
Czech Rep.
Turkey
Korea
1,000
millions
= 100
= 10
Taiwan
Morocco
United States
Argentina
= Developed
= Emerging
= Frontier
VietnamKenya
Croatia
Romania
Nigeria
Brazil
United
Kingdom
GermanyJapan
Malaysia
Hong Kong
Qatar
Singapore
Kazakhstan
UAE
Saudi Arabia
Denmark
Oman
Israel
Questions about Frontier Markets Index Weights
Bangladesh
Kuwait
China
Mexico
IndiaEgypt
ColombiaPeru
S. Africa
Philippines
TunisiaThailand
Indonesia
Russia
Stage
1
Stage
2
Stage
3
Stage
4
Stage
5
29
Frontier Market Weights (NYSE: FM)
17%
5%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
Kuwait Nigeria
3.4x
Source: www.ishares.com.
30
Country Definitions & Weights are Messed Up
Source: World Bank.
3,268,431
183,523,000
-
20,000,000
40,000,000
60,000,000
80,000,000
100,000,000
120,000,000
140,000,000
160,000,000
180,000,000
200,000,000
Kuwait Nigeria
Population 60x
31
Kuwait – the 34th largest city in China
City Population Shanghai 22,315,474
Beijing 11,716,620
Tianjin 11,090,314
Guangzhou 11,071,424
Shenzhen 10,358,381
Wuhan 9,785,388
Dongguan 8,000,000
Chongqing 7,457,600
Chengdu 7,415,590
Nanjing 7,165,292
Nanchong 7,150,000
Xi’an 6,501,190
Shenyang 6,255,921
Hangzhou 6,241,971
Harbin 5,878,939
Tai’an 5,499,000
Suzhou 5,345,961
Shantou 5,329,024
Jinan 4,335,989
Zhengzhou 4,253,913
Changchun 4,193,073
Dalian 4,087,733
Kunming 3,855,346
Qingdao 3,718,835
Foshan 3,600,000
Puyang 3,590,000
Wuxi 3,543,719
Xiamen 3,531,347
Tianshui 3,500,000
Ningbo 3,491,597
Shiyan 3,460,000
Taiyuan 3,426,519
Tangshan 3,372,102
KUWAIT 3,369,000
Hefei 3,310,268
Zibo 3,129,228
Zhongshan 3,121,275
Changsha 3,093,980
Ürümqi 3,029,372
Something Big is Happening in
Emerging Markets:
The Great Confluence
33
The Growth of EM Consumption is a VERY Big Deal
“The biggest growth opportunity in the history of capitalism”
- McKinsey & Company
34
Smartphones Are Still a New Thing
35
Smartphones Changing Our Consumption Patterns
OLD WAY
36
Smartphones Changing Our Consumption Patterns
NEW WAY
37
+ New Entrants Offering Low Cost Smart Phones
38
= Smartphones Sweeping Across World
39
+ Growth of Affordable Access to Broadband
40
+ U.S. VC funding EM Entrepreneurs
41
$14.9 $21.1
$31.3
$43.6
$63.9
$89.9
$120.6
$162.8
$-
$20.0
$40.0
$60.0
$80.0
$100.0
$120.0
$140.0
$160.0
$180.0
2009 2010 2011 2012 2013 2014 2015 2016
EMQQ Index Revenue & Growth Rate*
2009-2016($USD Billions) +35.0%
+41.1%+48.5%
+39.2%
+46.6%
+40.7%
+34.2%
Result #1= Massive Revenue Growth (CAGR 40.7%)
Source: Big Tree Capital LLC Estimates
42
Result #2 = Value Creation
Source: Solactive, AG
625.06
153.11
0
100
200
300
400
500
600
700
EMQQ Index vs MSCI EEMAs of 1/31/2018
EMQQ
EEM
43
= Largest IPO in U.S. History
Source: Wall Street Journal.
44
Alibaba IPO’s Huge ETF
Conundrum“…many questions have been raised regarding how the newly public company will be placed in ETFs.”
- ETF.com
One More thing – BABA was NOT in the index
One place you won't get Alibaba: The big ETFs“Alibaba's blockbuster debut as a publicly traded stock has been everywhere. One place it won't be, though, is in a lot of investor portfolios…..The fact that they're saying it won't be in many indices, or broadly followed indices, it raises the question of what indices are supposed to do.” - USA Today
Alibaba doesn’t fit into the indexing framework at FTSE and MSCI so “it kind of just gets lost.”
- Morningstar
Didn't buy into the Alibaba IPO?
You may own it anyway…“…So how about an ETF that tracks Chinese firms? Not so fast: The major indexes for Chinese shares don't consider Alibaba a Chinese company (Alibaba is incorporated in the Cayman Islands), so you won't find Alibaba in those funds either.”
– Consumer Reports
“…why even have these indexes?”- CNBC.com
“It’s the clash of the old world legacy
index companies with the fast pace of
IPOs and ETFs today” - Tom Lydon
45
Where is Alibaba (NYSE: BABA)?*
VWO (Vanguard Emerging Markets ETF)
FTSE Emerging Markets Index
Company %
1 Tencent Holdings Ltd. 3.51%
2 Taiwan Semiconductor Manufacturing Co. 2.12%
3 Naspers Ltd. 1.67%
4 China Construction Bank Corp. 1.64%
5 Taiwan Semiconductor Manufacturing Co. ADR 1.34%
5 China Mobile Ltd. 1.31%
6 Industrial & Commercial Bank of China Ltd. 1.08%
7 Hon Hai Precision Industry Co. Ltd. 1.02%
9 Bank of China Ltd. 0.86%
10 Housing Development Finance Corp. Ltd. 0.83%
Source: Vanguard.
VWO was missing most of the Great Confluence
46
Social Networks - Tencent (HK: 0700)
U.S. China
47
A Lost Decade? (Tencent vs. SP 500 vs. MSCI EM)
Source: BigCharts.
48
WUBA - 58.com “The Craigslist of China”
49
MELI – “The Amazon/PayPal of Latin America”
50
YNDX – “The Google & Uber of Russia”
51
MMYT – “The Expedia of India”
52
Private Companies inside of Public Companies
53
Go-Jek – “The Uber of Indonesia”
54
Flipkart – “the Alibaba of India”
55
“The Steve Jobs of Africa” – Konga CEO Sim Shagaya
56
The Case for the Emerging Markets Internet Sector
▪ Growth - The Great Confluence
‒ EM Consumer + Smartphones + Internet via Mobile Broadband
‒ Ecommerce models “leapfrogging” traditional models
‒ Ecommerce growing 5x as fast as consumption
▪ Better Corporate Governance
‒ No State Owned Enterprises
‒ Most companies backed by U.S. VC & trade on U.S. exchanges
▪ Exposure to Private Companies & Frontier Markets
57
The Future Of Emerging Markets is Here
Q&A