ESG – Filtering for “autocracies” in your emerging market (EM) portfolio.
ESG – Filtering for “autocracies” in your emerging market (EM) portfolio.
Join SmartBe Investments Chief Investment Officer Mr. Gavin Graham for a eye-opening conversation about emerging market investing with Perth Tolle, founder of Life+Liberty Indexes and creator of the Freedom 100 EM Index (FRDM). During the dialogue Perth discusses the investment risks brought about by autocratic policies; how the ‘free’ EM countries are benefitting from the western decoupling from large autocracies; and their seventy-nine factor quantitative approach to measuring ‘freedom’. All this and more in this segment of the Gavin Graham Show.
About the Speakers
About the Speakers
Perth Tolle is the founder of Life + Liberty Indexes, index provider and sponsor of the Freedom 100 Emerging Markets ETF – a first of its kind strategy that uses personal and economic freedom metrics as primary factors in its investment process. Prior to forming Life + Liberty Indexes, Perth was a private wealth advisor at Fidelity Investments in Los Angeles and Houston. Prior to Fidelity, Perth lived and worked in Beijing and Hong Kong, where her observations led her to explore the relationship between freedom and markets. Perth is a frequent speaker at investment industry events and provides commentary for various financial media including Barron’s, Bloomberg, CNBC, Cheddar, and MarketWatch. The Freedom 100 Emerging Markets ETF (Ticker: FRDM) and its underlying index were voted Best New International/Global Equity ETF and Index of the Year 2019 by ETF.com. Perth was named one of the Ten to Watch in 2020 by Wealth Management Magazine for her work on freedom investing.
Mr. Graham joins SmartBe with over 30 years of experience in Canadian and international markets. A graduate of Magdalen College at the University of Oxford, Mr. Graham has directed investment strategy at numerous institutions, such as the Guardian Group of Funds in the UK and BMO Asset Management in Canada. In addition to his position at SmartBe, he serves as a contributing editor to The Income Investor, a respected online Canadian investment journal. The Gavin Graham Show is a platform for Gavin to share his wealth of knowledge with the SmartBe community, as well as engage in stimulating conversations with peers and thought leaders.
[00:00:00] Gavin: Hello and welcome to The Gavin Graham Show sponsored
by SmartBe Investments. Today we have Perth Tolle from Freedom to talk
about emerging markets. Perth, can I hand it over to you to give us a brief
background on yourself and Freedom? Then we can get into the meat of things
with what's happening in the world?
[00:00:22] Perth: Sure. Well, I started my career at Fidelity after coming back
to the US from Hong Kong after college where I had experienced some things
that made me want to explore the relationship between Freedom and markets.
You know, at Fidelity I was there for about 10 years. I also had clients who said
to me, "I don't wanna invest in my home country." Countries like Russia and
Saudi Arabia, because it's like funding terrorism.
[00:00:41] And I felt the same way about my home country, which is China.
And all the situation that's going on there now. Kind of reversing all the policies
that made them prosperous over the past, you know, decades is making it a more
risky place to invest. And so I wanted to create something where emerging
markets investors could allocate equities and have that exposure without
funding autocracies. And with a freer country set so that they can take
advantage of the, you know, stronger institutions, the rule of law, and the
individual and investor protections that exists in the freer emerging markets.
The emerging markets, as a whole, in the universe is so full of autocracy that
previously without the FRDM, the freedom weighted product that we have, it
was not possible to invest enough index fund without having 40% allocated to
China, Russia, Saudi Arabia, Egypt, Turkey, and so forth.
[00:01:32] That's why we created the Freedom Weighted Solution and the
FRDM index, which is tracked by an ETF here in the US.
[00:01:38] Gavin: How long has it been going, and how much do you have in
the way of assets under management?
[00:01:41] Perth: Well, FRDM Index Strategy has been around since 2017. The
ETF has been around since 2019. So it's just over three years old and we have
currently about 200 million in assets under management.
[00:01:55] Gavin: Excellent. That's a tremendous achievement in a relatively
short period of time, obviously. What's the management fee on the ETF?
[00:02:00] Perth: The ETF management fee is 49 basis points. 0.49%.
[00:02:04] Gavin: And then there's the additional trading expenses and all the
rest of it on top?
[00:02:07] Perth: There's no additional. That's the..
[00:02:08] Gavin: All in charge? Wow!
[00:02:09] Perth: The all in. Yeah. Like, for example, global custody and all of
that, we cover all of that for our investors. And I'm very proud of that because
we do give our investors access to local shares on the local exchanges in each of
the countries. Which costs money.
[00:02:21] Gavin: Yeah, it does.
[00:02:22] Perth: But we are very proud to give them that local share exposure
to get, you know, the best representation of the markets in those countries.
[00:02:28] Gavin: No, that's important point in terms of investing in markets
with restricted liquidity for foreign investors. And it's also, that's a remarkably
low charge for a fund which has all of these sort of local hoops to jump through.
So, again, many congratulations on that. How's it done in terms of performance?
[00:02:43] Perth: So we've had some pretty stark outperformance since
inception, and I think that's due to some extreme events. You know, we
launched in 2019. In 2020 we had Covid. 2021 we had the China tech crash.
And then 2022 we had the Russian invasion of Ukraine.
[00:03:00] So as each of these events occurred, more and more freedom issues
became a part of the conversation. You know, when we first launched, it wasn't
a part of the conversation at all in emerging markets investing. And now it's
becoming much more commonplace. Investors are waking up to autocracy risk
in their emerging markets exposures. After they saw what happened with China
in 2021 with the tech companies, the IPO getting scrapped, founders getting
disappeared, very profitable online education companies told to be non-profits
overnight. And then what happened with Russia this year. The instant
worldwide sanctions that they were hit with after the invasion, and then their
stock market getting marked down to zero. It's now becoming almost
impossible to ignore the autocracy risk in the emerging markets universe.
[00:03:44] Gavin: As part of the whole enthusiasm for ESG, one of the major
things was governance, and one of the best indicators of quality of governance
was rule of law. The ability to actually have some confidence in the numbers
that you're looking at, and then to be able to actually trust that if there were
issues they would be dealt with in an appropriate fashion. Looking at what's
been happening, as you said, it's led to a much greater appreciation of the
importance of the rule of law and governance and things like that. What's your
major weights now within Freedom Fund? Which are the countries that you feel
score attractively on your methodology?
[00:04:17] Perth: So our biggest holdings are Taiwan, South Korea, Chile, and
Poland. Currently, Chile is the top weight, not because of its freedom score. It's
because it's outperformed relatively this year, so much more than the other
countries because of their commodities exposure.
[00:04:32] As far as the freedom metrics we use, you know, we just use third
party quantitative metrics from the Cato Institute and the Frazier Institute. We
use these composite country scores with permission for this purpose and, you
know, they use 79 different freedom variables including personal and economic
freedoms. We use the composite country score and derive our weights from
there. We are using, you know, all third party independent data. We don't
determine who are the freest markets. The data itself does that and we are
independent from the generation of that data.
[00:05:04] The freedom waiting algorithm naturally excludes the worst
offenders. So China, Russia, Saudi Arabia, Egypt, Turkey, and so forth have
never been in the FRDM index. We've been able to sidestep a lot of that tail risk
that we've seen in emerging markets in recent years. But in addition, we do give
a higher weight to the freer markets. Those freer markets are Taiwan, South
Korea, Chile, and Poland.
[00:05:26] Gavin: And second rank behind that, what would be the next four or
[00:05:30] Perth: So right now it would be South Africa, Brazil, Indonesia,
Malaysia, Thailand, Mexico.
[00:05:36] Gavin: You essentially have a fair exposure to South and East Asia
and also at the same time to Latin America?
[00:05:43] Perth: Yeah, so we are a broad emerging markets exposure covering
multiple continents. It was designed to be kind of a core emerging markets
[00:05:49] Gavin: By adding it to your broader asset allocation, you would
presumably be getting some advantages from non correlation or low correlation
with major developed markets. Has that proved to be the case in the three years
you've been going?
[00:06:01] Perth: You know what? The correlations are becoming more
intertwined. They're becoming more correlated. Recently, as we've seen in this
draw down, everything was drawing down basically at the same time. Emerging
markets actually performed better than developed markets in this draw down. At
least the freer emerging markets. They also have the benefit, the freer emerging
markets, have the benefit of recovering faster. We saw that in the 2020 recovery
when the freer emerging markets outperformed market cap waited EM,
EMESG, and also EMX China. So it wasn't just a China story.
[00:06:33] In the time of draw down, you know, we try to find safe haven in the
places that have strong institutions, rule of law, individual and investor
protections. And we think those are not only safe havens, but also places will
find the growth stories of the next decade. Just because these are the places that
foster growth and innovation. So we try to focus on those areas. You know,
these are also markets in a time of inflation that have lower historical inflation.
They have sound money. Sound money is one of our metrics in the data that we
use. So we try to focus on the country set that will give investors the freest
country exposures in the emerging markets to try to capture those growth stories
of the future.
[00:07:11] Gavin: No that's an important point given the recurrence of inflation
everywhere, especially in the developed markets. I mean, looking at places like
Germany coming in with a 10% number. Or 8% or 9% in North America is
obviously a very, very big change from the last couple of decades. Do you think
that this is maybe a sort of paradigm shift in that we now are maybe in an
environment where there is higher inflation? Partially because of the increase in
geopolitical risk from things like Russia's invasion of Ukraine and sanctions,
and the potential of China and Taiwan and things like that?
[00:07:40] Perth: Yeah, it certainly looks that way. We are also seeing a
paradigm shift in a kind of a decoupling in our supply chains from some of
these larger autocracies. You know, Russia exported oil, and that is being hugely
weaponized now to create inflation in Europe and other places. But China
exports cheap manufacturing, which is less likely or less useful for
weaponization. So that's good. But they're still very entrenched in supply chains
globally. And that is becoming more decoupled now and companies are
disentangling themselves. But that will take time.
[00:08:18] That being said, we are investing in countries that are set to benefit
from that. So countries like Indonesia, Mexico, Brazil, Malaysia, Thailand are
hugely benefiting from this kind of decoupling out of China as far as supply
chains go. And these are countries that have better trade policies, that have more
rule of law, and investor and IP protections. And so they're actually more
attractive places for trade. There is a bifurcation going on in the world for sure.
[00:08:45] Gavin: One of the reasons, maybe, for markets like Vietnam or
Indonesia becoming more interesting is that things got pretty expensive in
China. In terms of rising wages and things like that. But it is interesting that you
do see that bifurcation and that move. And obviously Mexico, which is as you
were saying one of your major markets, is a major, major beneficiary from
nearshoring or reshoring, whatever you call it.
[00:09:03] Perth: This was a trend that was happening long before this
geopolitical shift. Long before even Covid. I remember being at Fidelity, I had
clients who did business in China that were saying, "Well, it's too expensive
now. We're, you know, moving to Mexico." So that was, you know, 10 years
ago. I think this trend was just accelerated and hopefully we'll capture some
benefits from that in our freer markets.
[00:09:21] Gavin: And would there also be an issue that if we are seeing the
weaponization of commodities by Russia after the invasion of the Ukraine, that
would benefit emerging markets? Because, again, a number of them are major
commodity exporters. Correct?
[00:09:32] Perth: It's possible. Though the free emerging markets tend to be
less resource dependent, so they tend to be less, you know, completely
dependent on on one resource. So they are more flexible to respond to market
trends as well.
[00:09:44] Gavin: Have you found that companies paying dividends is a feature
of the freer markets in that that's a way of rewarding minority shareholders and
to do so means that you actually are being transparent in terms of cashflow and
things like that?
[00:09:56] Perth: You know what? I haven't actually dug into that. I should
probably read your book . I have a feeling that's in there. We used to have
dividends, and yield, and all of those other factors on a prior iteration of our
index. We took all of that out. We stripped it all down to just Freedom. And
that's because nobody was using the freedom metric in the center. And most of
our feedback from potential investors at the time was, "Hey, you know, if we
wanted a dividend EM fund or a Value fund, we could get it elsewhere. Your
main innovation is freedom. So that's really all we would like to see." And so
we isolated the freedom factor for this flagship product. That is all we do. It's a
hundred percent freedom weighted. There are no other factors in there.
[00:10:36] On the security level, you know, we are market cap weighted inside
the freedom weighted country weights. And the only thing we do is exclude
state owned enterprises, and that's just to bring the economic freedom theme all
the way through. So we are not actually looking at dividends, although we've
had a lot of requests do so.
[00:10:52] Gavin: Well that might be a possibility in the sense of have a
Freedom dividend fund because you put that dividend screen back in. Now that
you proved to be the validity of the freedom concept. Just from limited
experience. If the management's prepared to actually give cash to outsiders, then
a, it's profitable cuz you can't fake the cash for long. But secondly, also, we are
willing to actually share it with non-family members, non insiders. So it was an
additional sort of, as it were, quality screen.
[00:11:16] Perth, that has been an excellent summary of where we are. Thank
you so very much for taking the time. It's a pleasure. I hope we can do this again
[00:11:22] Perth: Absolutely! Thanks so much for having me.
[00:11:29] Gavin: Thank you very much for listening to The Gavin Graham
Show sponsored by SmartBe Investments. If you would like to learn more about
the subjects discussed today, please go to our website, at
smartbinvestments.com or @smartbeinvestments on any social media platform.
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