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Cabot Emerging Markets Investor Bi-weekly Update

As we enter the second quarter, emerging markets are on solid footing in a constructive uptrend as EEM remains just above both 50-day and 25-day moving averages. In light of this we are positive and increasing our allocation.


Emerging Markets and Politics Move Forward

As we enter the second quarter, emerging markets are on solid footing in a constructive uptrend as EEM remains just above both 50-day and 25-day moving averages. In light of this we are positive and increasing our allocation.

Let’s begin with an update on the Lynas (LYC.AX) (LYSCF:OTC) rare earth Australian stock I recommended in the special report released early this year.

Lynas stock recently jumped 35% due to a conditional takeover offer by an Australian firm (Wesover), but Lynas rejected the offer.

I recommended selling half your position last week to lock in this gain and holding on to the balance. After reading several pieces of institutional research that projects that a reasonable price target is 30% higher than the current price, I still believe it is worth holding on to your remaining shares.

This week, Hong Kong passed Japan as the world’s third largest stock market in terms of market value after the U.S. and China. Tokyo is not happy.

There are indications that China’s manufacturing and pricing is ticking upward amid signs that government efforts to boost the economy may be putting a floor under domestic demand.

And in the world’s largest democratic exercise, polls opened today in India, beginning a seven-phase election staggered over six weeks in the country of 1.3 billion people with more than a million polling stations.

Theresa May managed to convince EU leaders yesterday to grant the U.K. more time before it leaves the bloc, extending the deadline to October 31.

While the timing of the U.S.-China trade agreement remains unclear, the two countries have “pretty much agreed on an enforcement mechanism,” according to U.S. Treasury Secretary Mnuchin “If we can complete this agreement, this will be the most significant changes to the economic relationship between the U.S. and China in really the last 40 years,” Mnuchin added.

Max Baucus, former U.S. ambassador to China, believes internal resistance to reform and local governments’ ability to carry out the central government’s policy put a big question mark on any trade agreement. And he believes that if a trade deal is reached it will likely take a long time—up to six years—to see any real changes.

Portfolio Updates

Alibaba (BABA) tacked on another small gain this past week. Investors have definitely been rewarded as its shares have gained 42% since mid-December. It really is becoming a huge company and in many ways, like Tencent, is an investment holding company.

In addition, while it remains the dominant player, Alibaba faces stiff competition in China’s domestic market, as e-commerce penetration is high in top-tier cities such as Beijing and Shanghai. This initiative and international growth will drive near-term growth. We believe that BABA remains a great core holding for investors who believe in the China story. BUY A HALF.

Baozun (BZUN) is in a solid uptrend and should be one of the prime beneficiaries of a U.S.-China trade deal. The market seems to be recognizing that slightly higher expenses in the form of investments in future growth are worthwhile. Baozun’s investments in its platform and new cross-selling opportunities will improve product mix and revenue.

On the valuation side, while on an earnings basis the stock appears a bit expensive, the company expects $1 billion in revenue for 2019 yet has a market value of only $2.2 billion. BUY A HALF.

Daimler (DDAIF) is a high-quality, conservative play on emerging markets. As a bonus, enjoy the 7.3% dividend yield.

Mercedes-Benz brand deliveries fell 4.1% in March to 227,644 vehicles but deliveries in China rose 5.9% during the month. The company reported that during the first quarter it made important model changes in the highest-volume SUV and compact-car segments. The company expects increasing vehicle availability in the coming months and, thus, sees global sales increasing slightly in 2019. Mercedes-Benz maintains its market leadership in the premium segment in Germany, UK, France, Italy, Switzerland, Sweden, Portugal, Poland, Denmark, South Korea, Australia, Canada, Brazil and other markets. BUY A HALF.

LexinFintech (LX), our most recent recommendation came out of the box strong, pulled back yesterday but regained its footing today. This high growth fintech idea is currently trading at a very reasonable valuation and, if you don’t own any, I encourage you to build a half position. BUY A HALF.

Sea Limited (SE) experienced a bit of volatility as some profit-taking hit the shares early in the week before an upswing yesterday and today.

This company continues to benefit from strong growth in Southeast Asia, thanks in part to a five-year deal (inked in 2018) to have the “right of first refusal” to sell Tencent’s games. To give you an idea of the potential, just 5% of Tencent gaming revenue amounts to Sea’s total quarterly revenue of $230 million.

While SE is burning through more cash than we would like, the company’s digital entertainment segment saw revenues climb 63% to reach $241 million in the last quarter. Growth for the company’s online retail business was even faster.

If you bought on our recommendation, you may want to book some profits but you can hold the rest. If you have not yet invested in Sea, I’m not opposed to nibbling here if you really want in, but prefer waiting for dips for more aggressive buying. HOLD A HALF.

TAL Education (TAL) has already jumped from 25 to 35 so far in 2019, but it’s been pretty much treading water in March. There’s been no negative news but the relative under-performance is something to keep on eye on. I’m hopeful it is forming a base to move on to the next level. Earnings are expected on April 25.

TAL offers comprehensive tutoring services to students from pre-school to the 12th grade, personalized premium services and online courses; its learning center network currently covers over 50 key cities in China.

Based on the above and TAL’s relatively high valuation, I’m moving the rating from Buy to Hold. MOVE FROM BUY A HALF TO HOLD.

Tencent (TCEHY) continues to perform well and is within striking distance of new recovery highs. Importantly, nine new games were approved in the quarter following a Chinese license freeze due to a regulatory crackdown.

In the past ten years, Tencent invested in more than 700 companies. Among the 700 companies, 63 are now listed and 122 are unicorns with market capitalization or value of more than $1 billion. The combined total market capitalization of companies in which Tencent holds more than 5% now exceeds $500 billion.

Given the solid stock action and fundamentals, I’m going to fill out our position now. MOVE FROM BUY A HALF TO BUY A FULL POSITION.

Van Eck Rare Earths/Strategic Metals (REMX) moved ahead this week helped in part by the Lynas buyout offer mentioned above. REMX remains a hedge against U.S.-China tensions and a play on rare metals and rare earths that are undervalued and underappreciated given their importance to high-tech products and markets. HOLD A HALF.

ZTO Express (ZTO) was up this week but has underperformed overall, sitting just about where it was a month ago after posting 2018 earnings. ZTO recorded a 29% increase in revenue in 2018 and expects 35%-40% growth in 2019. Expenses have been rising as the company makes investments in technology.

Based in Shanghai, ZTO is one of the largest express delivery companies, not just in China but globally. It offers services to millions of traditional merchants, e-commerce sites and online sellers covering 96% of China’s cities and counties.

Finally, ZTO’s board has authorized a new $500 million share repurchase
program. If you are not yet on board, I encourage you to buy a half position right here. Next earnings report is expected May 15th. BUY A HALF.

Watch List

NIO (NIO) appears to have found a support level just over $5. I’ll be watching this one closely.

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