30.04.2013

Investment Adviser:

NFD d.o.o

(May 2013)

 

How has the Fund performed recently compared to its peers and are there any particular stocks or areas where it is performing well?

 

Due to a reduced exposure to Polish stocks, which have historically been a major contributor to regional performance, and a higher exposure to Southern European countries such as Croatia and Bulgaria, the Fund has been able to record a moderate loss of 1.98% in the first quarter of the year while the Fund’s comparative index registered a loss which was more than four times as large in the same period. Stocks performed especially well in Bulgaria and Croatia. Equities in the latter are being positively affected by the country’s accession to the EU this summer.

 

You took over the investment adviser role at the end of last year. What changes have you made to the Fund portfolio and its investment strategy since then and why?

 

We increased the relative weighting from the traditional Polish/Russian dominance to South Europe, especially Croatia, where we are looking for event-driven opportunities related to the country’s accession to the EU.

 

Could you explain a bit about your investment and stock selection process? Is there anything unique in your approach that sets you apart from other asset management companies?

 

Generally we have a value bias, carefully selecting just a few active stocks and at the same time controlling tracking risk by optimizing the residual portfolio. We tend not to overemphasize a fully active approach.

 

The relative strength of the Polish economy in recent years has made it a favourite among investors and its market has been widely touted as offering some of the most promising investment opportunities in Emerging Europe. Is this making it harder to find well-valued new stocks as more investors move into the market and push prices up?

 

This is certainly true, but at the same time Poland is a good example of how complex investment decisions are at the moment. The Polish market was perceived as an “Emerging Europe” safe haven during the crisis and it had a steady inflow of domestic capital as well, making it a sound investment story overall. But the latest macro developments in the country indicate that the Polish economy has not decoupled from the EU, and it is not entirely evident that, at the moment, Polish stock valuations offer significant upside. Ultimately, we are cautious about macro developments.

 

Russia is often cited by many investors as a key market in the region because of its size and perceived economic and market potential and some investors make it the focal point of an Emerging European portfolio. Do you think this is a wise approach?

 

While Russia shows a great deal of potential outside its commodity-led economy, it is still perceived as being highly-correlated to the global commodity market. Since commodities are currently in an oversupply phase, Russia’s stock market will come under pressure in the short-term. Therefore, we are currently underweight in Russia. Whether Russia should be the focal point of any Emerging Europe portfolio is more of a style decision: looking at markets in terms of just size, then the answer is definitely yes, but if you look at them in terms of of speed and scale of country improvement, it would be better to put your main focus somewhere else.   

 

Are there any markets in the region which you think have been significantly overlooked by investors and which therefore offer good value?

 

In general, with the exception of Poland, Emerging European markets have been overlooked by investors in the last few years. Therefore, anticipating further consolidation – something which can be reasonably expected - they all offer good value in the near-term. If one had to pick out a single country it would be Croatia because it is joining the EU this summer and we should see the same kind of benefits from this that other countries have seen in similar accessions in the past. 

 

Studies have shown that Emerging European stocks have been historically undervalued. Is that still the case and if so, how much longer can they remain undervalued?

 

Due to relatively low foreign capital inflows, conditioned on small market capitalizations and liquidity, which are systemic factors present in a bull market as well, relative undervaluation can be a prolonged or persistent anomaly. In a bear market, these factors are even more important in investors’ decision making, and, as we can see now, undervaluation has deepened.   

 

Some investors have been put off Emerging Europe because they perceive the performance of economies and markets in the region as being strongly linked to the Eurozone. Is this perception wrong? Is Emerging Europe really being affected so negatively by the Eurozone’s problems?

 

Unfortunately, it is. Interdependence with the EU is evident not just in foreign trade, but almost everything else, including capital inflow sources, banking ownership, currency exposure etc.  

 

The region’s financial sector is dominated by foreign banks, mainly from the Eurozone. Does this raise any concerns for investing in the region’s financial sector e.g. that foreign banks will look to repatriate funds to their domestic markets?

 

This process of repatriation is not something which has occurred solely during the credit crunch, it has just been more evident during the period. And it is not something which we see as a great risk because the banking industry is highly-regulated and local regulations often ensure even higher capital requirements than developed EU peers.

 

Much has been made recently of investors taking more notice of the fact that Emerging European stocks are paying good dividends. Is this a fundamental selling point for the region’s stocks or just an ‘added bonus’ in your opinion?

 

High dividend yields are a counter product of low market valuations, so we perceive them more as a source of price discovery than as a revenue stream for a long-term portfolio.  

 

If you had to give a potential investor one reason why they should invest in Emerging Europe, what would it be?

 

At the moment, Emerging Europe provides extremely attractive valuations in comparison to global markets. Structural changes made by many countries in the region over the last few years have been overlooked because of the EU crisis and related short-term negative effects. But we believe that the region itself will emerge from the crisis with more competitive and sustainable economies, and the investment story is not one of only exploiting current mispricing but also a fundamental play.   

 

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