Top emerging market fund beating 96% of peers is betting on AI stocks

A top-performing fund focused on developing economies is betting on artificial intelligence-related stocks while steering clear of Chinese equities in a bid to maintain its double-digit returns.

Northcape Capital Global Emerging Markets Fund has loaded up on shares of telecommunications and IT servicing firms which are seen as prime beneficiaries of the global shift to AI technology. Tata Consultancy Services Ltd., America Movil SAB de C.V. and PT Telkom Indonesia Persero Tbk are among stocks that are set to gain, according to the fund’s founding portfolio manager Patrick Russel.

Businesses are “going to need IT outsourcing companies to assist with the integration of AI applications,” Melbourne-based Russel said in an interview. Greater demand for faster connectivity and bandwidth will increase demand for data storage, which would boost telecoms, cloud services and other related services, he added.

A bullish consensus has formed around AI stocks, with the likes of BlackRock Inc. and Morgan Stanley touting their merits as industries ranging from healthcare to auto and banking embrace the technology. But caution is also creeping in as some analysts question if stock valuations have become unsustainable. The Federal Reserve’s plan to increase interest rates again this week may also add to that worry.

The A$5.5 billion ($3.7 billion) Northcape fund has gained 14% so far this year to beat 96% of its peers, according to data compiled by Bloomberg. Indian and Mexican stocks account for almost half of its portfolio and the vehicle also holds shares of Samsung Electronics Co. and Taiwan Semiconductor Manufacturing Co., according to Russel.

However, the portfolio manager warned the debate around the regulation of AI may disrupt the growth of stocks related to the technology.

“If it’s considered to be potentially dangerous and if it gets into military applications in the wrong countries, then it could mutate into potentially quite a lethal technology,” said Russel. “There’s a lot of debate and discussion around how AI’s going to be regulated and certainly its military applications are tightly controlled and what countries can get access to that.” 

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Emerging economies may even adopt AI-driven technologies faster than developed markets without the presence of legacy technology, Russel said. “You’re seeing in EM, people are going to data and they’re going straight to the cloud. They’re not even having a server, so they’re skipping the whole server generation.”

Investability

In contrast, the fund has only roughly 1% of its holdings in Chinese equities listed in Hong Kong as geopolitical risks and concerns about governance make China an undesirable investment destination, according to Russel.

“In China, sadly, the demographics are really quite poor,” he said. “You’re getting people leaving the workforce. So demand for mortgages is actually shrinking in China” in contrast to India, where the housing loan market is growing, he added.

Russel is also bullish on Mexico, which is set to benefit as global supply chains move away from China. “Mexico is on the cusp of a golden decade in terms of economic growth driven by foreign direct investment,” he said. Strong trade ties, faster freight to the US and lower wage rates relative to China make Mexico a desirable hub for companies, he added. 

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