By Jaisal Pastakia, Investment Manager at Heartwood Investment Management
When thinking about global emerging market equity investing, the focus tends to shift toward China and India, despite questions about their near-term growth outlooks. And yet often overlooked are countries in Central and Eastern Europe (CEE), which are enjoying clear economic improvements.
By referring to the ‘CEE’, we exclude Russia and Turkey and include those countries buffeted between Germany to the west and Ukraine to the east – predominantly Poland, Czech Republic, Hungary and Romania. In aggregate, these countries delivered 4.1% growth (annualised) in the first of 2015, surpassing market consensus forecasts and leading to upward revisions to growth in 2015 and 2016.
A significant contributor to growth is rising domestic demand. Real disposable incomes are increasing, unemployment is falling and retail sales are growing. On the external side, net exports are also improving as the eurozone recovers. This region benefits from a strong German economy – for example, half of all exports from the CEE to Germany are re-exported to the US and China.
Investor outflows from last year have yet to return, but we expect that investors will begin to reallocate to this region in recognition of the improving economic fundamentals. Smaller countries’ inclusion into the MSCI Emerging Markets Index, such as Romania, would be another stimulus to flows. We also find it reassuring that this region attracts mainly long-term institutional investor flows, rather than ‘hot money’.
Valuations remain compelling versus other emerging market countries. The market is susceptible to political risks, most recently highlighted in May with the surprise election of the socially conservative Andrzej Duda in Poland as President, as well as political corruption accusations against the Prime Minister in Romania. Meanwhile, market sentiment is exposed to ongoing political aggravations in Russia/Ukraine. Notwithstanding these headline risks, we expect the economic fundamentals in CEE countries to overcome political noise and support the longer-term investment case.
Based on the above factors, we have taken the opportunity to invest in Trigon New Europe Fund, which has a special focus on Central and Eastern Europe, as well as investing in new European Union countries and those aspiring to accession.