Building the bridges and roads to riches

Andrew: Let’s start with investors’ general perception of emerging market (EM) assets and then drill down. At present EM equities are seen as fairly cheap; rising interest rates in the developed world, especially the US, tend to draw money away from risky assets such as EMs. If inflation (and interest rates) stay elevated because inflation is higher for longer, is it going to be a problem for EMs generally? 

Charles: It’s true that higher rates in the US usually reflect a strong US economy, implying that returns available in the US market tend to be better, so money is drawn in. 

Note, however, that retail investors in EMs are part of this story too. At a time of high rates, they are, correctly, allocating money to fixed-income assets. So when it comes, the shift down in interest rates in EM will see a shift up in equity valuations there. 

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Coming back to the US, global markets are all waiting for the moment that rates fall, which will bring a transition back into risky assets. However, we don’t tend to worry much about the timing. Despite high interest rates globally, our fund delivered a 12.8% net asset value (NAV) total return last year; our assets are not correlated to the overall EM cycle. Over the past three years, we’re up 32% and the MSCI EM index has declined by 6%. 

Our assets tend to be long-duration: you build a railway and it’s there for 30-50 years. Our returns stem from strong fundamental economic activity. The underlying structural growth is strong. 

Andrew: One gets the impression that there’s more muscle in EMs now in any case. 

Charles: Yes, much more. EMs have much deeper local debt markets now, for instance, making them less vulnerable to overseas trends than they were 30 years ago. It’s a reflection of ongoing investment and continued strengthening of their economies. 

So the “higher for longer” scenario shouldn’t be much of a headwind. I look at the key countries represented in our portfolio and see strong GDP growth. 

Andrew: Let’s take a look now at the trust, which was set up in 2005. Usually, EM funds are based on an assortment of country bets; here it’s thematic – infrastructure and structural growth across all emerging markets. 

Charles: We were keen to capture big trends that are key drivers of long-term growth. Vietnam’s urbanisation rate, for instance, is 35% (so 35% of the population is living in urban areas), still relatively low. Urbanisation underpins an emerging middle class, which implies more consumption as they become wealthier. 

Andrew: There is also a broader productivity effect from agglomeration in cities, isn’t there? 

Charles: Yes, correct. And these people use our assets, such as airports, ports and toll roads; they’re flying, driving cars and consuming more, thus boosting imports. So the basic approach of the fund is to invest in infrastructure and utilities to unlock economies and meet the demands of urbanisation and the new middle class. Furthermore, as in the developed world, the energy transition and broader digitisation have become increasingly important. 

Then there are shifts in global trade. The friction between the US and China means people are looking to nearshore, diversify supply chains or relocate away from China, hence the expression “China plus one”. This is another trend we can benefit from. It seems unlikely to reverse soon, especially with Donald Trump expected to make a comeback. 

I’ve just been to Mexico and I have never seen such growth in infrastructure. The upshot is that the fund is now broadly divided into four mega-trends: energy growth and transition, social infrastructure, digital infrastructure and global trade. 

Andrew: Just coming back to the macro for a moment, when interest rates are high, debt is more expensive for big projects such as ports. Has that been a problem? 

Charles: Actually no, dearer money is not a drag. Our assets are highly cash-generative; they are not relying on leverage to deliver returns but on their growth. They have strong top-line growth and high EBITDA [earnings before interest, taxes, depreciation and amortisation] margins, so strong sales drop to the bottom line quickly. 

Look at Rumo, Brazil’s biggest railway operator. It transports mainly soya and corn. In the fourth quarter of 2023, it grew volumes by 12.5%, revenues by 18% and EBITDA by 33%. These firms have some debt, but it is manageable. It’s all about volumes and growth. 

The broader trends in Brazil are also encouraging. After decades of investing in infrastructure, this 200 million-strong country is now the number-one exporter of soya, corn, poultry and beef. It is the number two in iron ore, and 33% of the world’s coffee comes from Brazil. The fact that the trade surplus jumped from $60 billion in 2022 to $99 billion in 2023 underlines the economy’s momentum. 

Brazil has also made huge investments in green energy. More than 90% of its energy is renewable – hydro, wind or solar power. It wants to go further, however, and there are investment opportunities there. 

Its best solar and wind assets are in northern Brazil, but most of the population and the manufacturing are in the southeast, so you need more transmission systems. Brazil has been investing in offshore oil too. That’s coming online and the country is set to jump from eighth-largest to fifth-largest oil exporter in the world. 

Andrew: Are you happy with the political backdrop? 

Charles: There’s been a lot of noise and swings from left to right to left. But we feel that the underlying policies put in place concerning the independence of the central bank, the strength of the Congress and strength of its regulators are admirable. We are comfortable with the outlook. Brazil is currently our biggest holding at 26% of the portfolio. Chile, on the other hand, we pulled out of once we heard that it would rewrite the constitution, but returned when this discussion was off the table. The good news is that if we feel a market is becoming risky, it’s easy to sell out, as 95% of our holdings are listed assets; there’s enough liquidity in the market. 

For now, however, overall emerging-market political risk appears manageable, with government interference less of an issue. Brazil, India and the Philippines, for example, have privatisation programmes. These are big economies looking to unlock value. 

Andrew: What is your assessment of Vietnam? Jim Rogers always used to joke that the best capitalists are found in communist countries. It’s now 9% of the portfolio. 

Charles: Vietnam certainly benefits from a thriving entrepreneurial culture and a young population. When I first went there I had to dodge all the bicycles; now I have to be careful of the scooters; which reflects the economy’s rapid development. Its biggest benefit is that it sits next to China, one of the world’s top economies, in the same way that Mexico sits next to the US. 

These are both economies with populations of 100 million people with the right demographics, solid education systems and a positive outlook. When it comes to energy, however, while I have a clear idea of government policy in India and the Philippines, the Vietnamese government’s approach is opaque. Vietnam has hydro and wind resources, but it is noteworthy that around 18 months ago Intel decided not to construct a second major facility in the country owing to fears over an uncertain power supply. 

Andrew: I wanted to ask about the fund’s sector breakdown. Ports and logistics are your current favourite, comprising 20% of the portfolio. Then there’s the electricity sector at 19.8%.

Charles: Yes, my number-one investment is a company called International Container Terminal Services, with headquarters in the Philippines. It has an extraordinarily good management team and adds ports to its portfolio every year. So we have growth because the group is adding ports and because it’s improving them. It has 33 now.

My second-biggest stock holding is Brazil’s Alupar Investment. We’ve held it since 2010. It’s a family-run outfit running electric-power transmission lines. With transmission lines, you get paid for availability, so your economic risk is low. Alupar earns an inflation-adjusted rate of return for managing the lines. In addition, the group bids for, and wins, additional transmission lines. It delivers contracts more cheaply and rapidly than expected, boosting its returns.

The third-biggest holding is another port firm, Santos Brasil. As ports have become more important in global supply chains, pricing power has improved. In the fourth quarter of 2024, the group grew sales by 42%; volumes jumped by 13% and the rest was pricing. Profits before tax soared by 127% as the EBITDA margin doubled. I love my ports.

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