Portfolio Managers, Daniel Graña and Matt Culley, discuss how traditional outsourcing and convergence opportunities in emerging markets are being complemented by innovation opportunities as EM companies adopt a leading role in digitalization, decarbonization and other major global innovation themes.

Key Takeaways

• Traditionally, investors have been drawn to emerging markets for outsourcing and convergence opportunities.
• Today, EM companies are playing a leading role in a third major investment theme: innovation.
• In our view, this innovation is occurring more rapidly and evolving along different lines than it has in the past, reshaping how emerging markets fit into the global innovation landscape.

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Daniel Graña: Emerging markets is more than just a call option on global growth or a cog in the global supply chain. Historically, there were two reasons to invest in emerging markets. One, of course, is the outsourcing story and the other was the convergence story. There are great business models in both. The convergence story, of course, is [that], as income levels rose, people would want to have modern conveniences. And the supply chain side is the companies that do very well at making widgets or making services that are cheaper, better, faster than their counterparts in the developed markets. But increasingly there is a third reason to invest in emerging markets: innovation. And this is the part that gets me particularly excited, because more often than not these days, emerging markets are not playing sort of a supporting role, but increasingly playing a leading role in innovation. They are fantastic companies that are looking to tackle emerging market-specific problems using technology.

And innovation broadly written, whether it is decarbonization, the entire decarbonization chain of solar, wind and all the sort of bits and pieces that go into it, as well as new innovative companies such as biopharma companies, the sort of early-stage, pre-revenue [companies], even, that show promising results in drug tests, clinical tests. And so, we want to focus on innovative companies.

Matt Culley: We think innovation in EM is very different than it has been in the past. So, we all know that innovation is reshaping the world, but it is happening in different places and at a pace much more rapid than what we have seen in the past. Historically, commercialization of new technologies was principally driven by developed markets, with EM playing much more of a supporting role. However, years and decades of outsourcing and convergence-led growth have redistributed those critical inputs for innovation across our markets. At the same time, what we have seen is the intersection of consumer electronics and Internet penetration coinciding with a materially younger median age, [which] means that today we have the vast majority of the digitally native global population sitting in EM. And that is very different than it was 10 years [ago] and very different than it was even five years ago.

So, we look at education, China and India alone graduate five times more science, technology, engineering and math students than the United States. Russia, Korea, Indonesia are not all that far behind. Historically, the business formation structures were structurally biased against small businesses and startups, favoring incumbents and SOEs [state-owned enterprises]. Today, as we see this next wave of innovation and business is becoming more digitally minded first, we are starting to see that change. So, many of those entrepreneurs, instead of leaving and going to the West, are actually staying home. And they are staying home for two reasons: one, they see the opportunity to drive substantial social change. But they also are seeing this enormous market opportunity that has the ability to grow for decades and decades and decades. And again, we think that this reshapes how EMs fit into the global innovation landscape, in that we expect them to be much more of a leader going forward rather than playing that supporting role.

 

“SOE” refers to state owned enterprises. 

“EM” refers to Emerging market investments, which have historically been subject to significant gains and/or losses. As such, returns may be subject to volatility.

Health care industries are subject to government regulation and reimbursement rates, as well as government approval of products and services, which could have a significant effect on price and availability, and can be significantly affected by rapid obsolescence and patent expirations.