COLUMN-Catch a falling BRIC and put it in your pocket

Thu Apr 18, 2013 8:29am EDT

By Conrad de Aenlle

LONG BEACH, California, April 18 (Reuters) - The four large emerging stock markets known as the BRICs - Brazil, Russia, India and China - have been left behind in the global rally this year. For some investors, that could present a buying opportunity.

The Standard & Poor's BRIC 40 Index, which comprises 40 large companies that are based in the four countries and have share listings in developed markets, is down 7.1 percent this year through April 17, lagging the 11.1 percent gain of the S&P 500 index of U.S. stocks.

The poor run continues the underperformance that the BRICs have experienced for more than five years. While the S&P 500 has been setting records, the BRIC 40 remains about 35 percent below the high it reached in October 2007.

That high was the culmination of a 380 percent rally from the spring of 2004 that left the BRICs overpriced, a condition stock sellers have been correcting ever since. Some fund managers, such as Jonathan Brodsky, co-manager of the Advisory Research International Small Cap Value Fund, say these markets have fallen so far that some standout companies are now fairly valued and worth buying.

To be sure, risks remain. Growth in the four economies has been sluggish - at least by emerging market standards. There are only so many airports that China needs and only so much oil and metal that Russia and Brazil can supply to build them.

But managers like Brodsky and Jeff Urbina, who runs $6.1 billion in emerging market equity portfolios for William Blair & Co LLC, see opportunities. They point to what they say are great companies whose share prices may have overcorrected as the broader BRIC markets sold off.

Eventually, BRIC shares will become broadly popular again, Urbina says, and investors would do well to get in ahead of that move with some well-chosen purchases.

SEEK SHAREHOLDER REWARDS

Urbina looks for companies that return profits to investors through dividends, share buyback programs or reinvestment in their core businesses. The companies seem to be more prevalent in consumer sectors than industrial ones, though they can be found anywhere, he said.

"Retailers can open stores cheaply and make a lot of money," he said. "There isn't much capital expenditure, and cash flow is going to be stable."

The well-positioned companies Urbina likes tend not to be cheap. One favorite is Companhia de Bebidas das Americas Ambev , a Brazilian beer and soft-drink producer that distributes throughout the Western Hemisphere. He called it "one of the best companies in emerging markets" and considers it worth buying, despite its high trailing price-earnings ratio of 26, because of its comfortable cash flow and growth prospects.

One of his more bargain-priced selections is phone service provider China Mobile Ltd. It trades at about 10 times trailing earnings, compared with an average multiple of 17.5 for the global telecommunications sector. China Mobile has "a fairly long runway," Urbina said, meaning it has high growth potential for years to come thanks to the increasing use of smartphones.

Financial services provide another growth opportunity, according to Jonas Krumplys, who helps direct $6.7 billion in emerging markets stock positions as manager of the Ivy Asset Strategy New Opportunities Fund and a member of the management team of the Ivy Asset Strategy Fund.

Noting that bank accounts and other consumer financial products are comparatively rare in India, he recommends ICICI Bank Ltd. The stock trades at roughly 21 times earnings, versus 40 for the global financial services sector, and the bank's 11.5 percent return on equity is significantly higher than the 7 percent average return on equity for the entire sector.

RESOURCE SHARES HIT HARDEST

If the BRICs have fallen from favor, natural resource issues have been particularly shunned. They are cheaper, relative to the broad BRIC markets, than at any point in 13 years, according to Michael Hartnett, chief investment strategist at Bank of America Merrill Lynch. He recommended buying BRIC resource stocks and selling short a broad index of emerging-market stocks.

Merrill declined a request to provide ratings on individual issues, but large BRIC resource companies popular with analysts include the mine operator Vale SA and the oil producer Petroleo Brasileiro Petrobras SA, both based in Brazil, and two Chinese energy producers, Sinopec Shanghai Petrochemical Co Ltd and CNOOC Ltd.

Another way to profit from the BRICs is to look elsewhere for bargain stocks that sell into BRIC countries, says Brodsky, whose fund has outperformed its peers over three years. He prefers to invest in companies that do big business in BRIC countries but are based in markets with more reasonable valuations.

Brodsky likes China Yuchai International Ltd, a Singaporean concern that builds engines for Chinese trucks, and Banco Latinoamericano de Comercio Exterior SA, a Panamanian trade-finance bank. The bank has a p-e ratio of 10, making it about one-fourth as expensive as the average financial services stock, and China Yuchai trades at five times earnings, one-fifth the multiple of the average cyclical industrial company.

Brodsky says the BRICs are appealing growth stories for the long haul, despite lingering political and economic challenges, and he expects buying opportunities to increase as valuations continue to shrink.

"We're beginning to see stock prices reflect the fundamental value of businesses rather than sentiment about what the future holds," he said. "I don't think there's anything wrong with the BRICs."

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