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Ian (Guest, Portfolio Manager at William Blair)
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Jack (Podcast Host)
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Ian (Guest, Portfolio Manager at William Blair)
Thank you very much. Pleasure to be here today.
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Jack (Podcast Host)
We wanted to sit down with you and walk through a number of, I think, themes and topics related to global investing in emerging markets. At William Blair, you are the portfolio manager on the Global equity team where you and your team build investment strategies that go far beyond the U.S. you know, I think a lot of investors here in the United States are pretty dramatically underexposed to EM and global equities and I think perhaps that's where, you know, we'll get into this. That's where maybe the opportunity lies for those investors that are looking for non US exposure and, you know, more diversification to them, what they're getting if they're allocated heavily to US Markets. A lot of the research I think that we're going to work through today can be found on William Blair's site. They're putting out a bunch of great content and some of Ian's work is up on there as well. I thought we would start at sort of like a higher macro level with en and then, you know, as we get down into it, we'll talk specific investment strategies and portfolio construction. But what where I think we wanted to start with you is, you know, emerging markets have had a very good run here, maybe one of the best runs in the last 15 or 16 years over the past 12 to 18 months on a relative basis. So those that have invested in EM have kind of been rewarded, but it seems like the war has kind of brought that to a standstill at least recently. And so I thought it would be good just to get your overall view on the emerging market landscape as you see it today.
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Ian (Guest, Portfolio Manager at William Blair)
Yeah, absolutely. A lot of variables, important variables to think about when you, when you think about em, it's not a sort of homogeneous set of countries or industries. But yeah, I think to your point, EM started to perform over the last couple of years. I think it's important to remember that EM equities had been in the doldrums for a very long period of time since 2010. So I think the extent of the outperformance needs to be put in that context. And I'm sorry to say this, but the outlook for EM equities, like many other markets, is going to be heavily influenced by the way that this AI capex cycle plays out. Technology is over 40% of the index and so that's something that's going to be highly influential. So that's something that EM investors face much like investors elsewhere. But put that aside, we think that EM offers some very unique opportunities. For example, there's really two sides to it for us. On the one side there's leading companies that sit within important secular trends. So the AI supply chains are clearly one of those where we've got the leading foundry companies, leading memory companies, but as we go through that AI and semiconductor supply chain we've got leading sort of niche dominating companies in any of those aspects of the supply chain. But then other important trends, for example around higher defense spending, sort of rebuilding shipping fleets, power and electrical equipment, energy storage solutions, you name it, you really tend to find either the leading or amongst the leading businesses in the world sitting in EM countries around these trends. And then on the other side of the spectrum, another thing that's quite unique to emerging markets is you find countries where there's very interesting long term domestic demand oriented opportunities because you've got underpenetrated levels of consumption of certain products and services, you've got income per capita at much lower levels, credit penetration at much lower levels. And so as we see economic development in these countries, you get on these S shaped consumption curves which are quite interesting opportunities as well. So you've got those two unique opportunities we find for emerging market equity investors. And then on top of that, relative to MSCI World, Emergency, despite the recent outperformance, still is about as cheap as it's been historically against MSCI World. So that's another interesting aspect for, for the asset class.
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Jack (Podcast Host)
Yeah, I think a lot of times investors forget like emerging markets aren't like emerging because they're, it's like they have characteristics that make them emerging. They have like to your point, they have maybe, you know, very different demographics and developed countries, their economies are less developed, their growth in some cases are higher, there's sometimes more economic or political risk. But to your point, it's just they're very different. They're very different markets with different characteristics.
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Ian (Guest, Portfolio Manager at William Blair)
Yeah, that's correct. You've got some countries where income per per capita levels are very high. So countries or regions like Korea, Taiwan and then you've got other countries where income per capita is much lower. For example in asean, India, Latam sits probably somewhere in the middle. And then you've got some very large markets in there. You've got China is enormously large end market. And so you're naturally going to have globally leading companies in such a large country as that. So it really is a very different set of countries and lots of different drivers. But right now, as with many other markets, the AI Capex cycle is one of the key drivers behind the the index.
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Jack (Podcast Host)
How are you assessing the war and the impact on EM versus the like? It seems like, you know, some of these emerging market countries are more dependent on oil or the price of oil affects them or maybe the currency, you know, the strength of the dollar is sort of hurting relative. So how do you think of like the, the war in terms of how that plays out, impacting em?
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Ian (Guest, Portfolio Manager at William Blair)
Yeah, well, interestingly actually since the eve of the war, the EM index has actually performed in line with the S&P 500, about 11% and it's outperformed the world index. So initially underperformed through the early parts of the war and has since outperformed. But when you dig deeper, it's a story of many different countries again. So Korea and Taiwan have really flown through that experience. As we've seen again, those AI Capex supply chain companies do very, very well. But there are some countries that are a little bit more exposed to this risk. And I think you'd need to cite countries where again to your point, they're net energy importers and where maybe that country is running the fiscal deficit might have high debt levels. And so, you know, there's a little bit of a balance of payments vulnerability there. And I think, you know, India is a good example of that. But actually there's many EM countries that are net energy exporters and that there's some, where there's some offsets, for example, might be marginal importers, but they also export products and services that might help us to address some of the, some of the tensions that come as a result of this. For example, exporting power equipment or energy Transition equipment, solar equipment and the like. So I think it's quite a nuanced story. And then when you look at EM versus Diem, certainly the US is in a more favorable position in terms of having a reserve currency or the reserve currency more more accurately and being a net energy exporter. But when you compare EM to European countries, certainly I don't think the vulnerabilities stand out. You know, European countries tend to be net energy importers. And again some economists that we like to follow do point out that there's some countries in Europe that have those, those additional vulnerabilities around their fiscal position, around their debt position. Sitting here today in the UK I'm only too aware of that. France is another example. But so I think really it's a very nuanced story around different countries and EM have different levels of vulnerabilities and not all of diem are really going to be immune from this. It's worth finally saying that we aren't 100% certain how this is going to play out. There are scenarios where we could have a resolution. We could see oil prices mean revert quite meaningfully. And so I think we need to be careful to have overly entrenched views around the countries that are especially vulnerable.
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Jack (Podcast Host)
Kind of zooming out to I guess the historical performance of EM. You know, there's been these periods over time where EM has dramatically outperformed the US and the US is outperforming to your point. Over the last 15 or 16 years EM has, you know, dramatically underperformed U. S stocks. But one of the things that you noted here is that you know, emerging markets represent 60% of the global population, 40% of global GDP and only 11 of the MSCI all country world index.
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Ian (Guest, Portfolio Manager at William Blair)
So do you, are you of the
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Jack (Podcast Host)
thinking or the mind that this recent move in EM is more of a longer term rotation, more of a. Even more than maybe, maybe more than cyclical. Maybe it could be a multi year run for EM or how are you thinking about that?
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Ian (Guest, Portfolio Manager at William Blair)
I think and maybe a bit cheeky of us to point out some of those statistics which some of our peers also do because it's going to take a very long time for those imbalances to resolve themselves. I think the fact that EM equity indices are underrepresented is a function of many things, some of which was quite structural. So for example the level informality in the economy, less companies are listed and there's a more higher proportion of business activity that happens in smaller companies. So it's going to take a Long time for that to play out. As well as the ROIT wax spread being inferior in emerging markets, we have higher cost of capital and so it will take time. But I do feel, and this is why I'm so excited about being an EM investor, that over the longer term these things are going to gradually get better through cycles. So we're going to see that informality reduce as these more dominant companies sort of consolidate those informal markets. So that's one of the key growth opportunities for a lot of EM companies. But then also we're going to see companies become a little bit more aware of how to run themselves better in terms of trying to allocate capital better in the interests of minority shareholders and really try to envisage strategies where their return on invested capital can actually improve as well as governments and companies enacting policies that reduce their cost of capital. I think Korea is a good example of where we're seeing that, where initiatives, this sort of value up initiatives to try to create more efficient balance sheets, try to focus more on rewarding shareholders and improving returns on capital. And as a result you'll see the weighted average cost of capital come down as well. So I see this as a very long term phenomenon that will play out over time, but through cycles. And the current outperformance of EM I think is more sort of accentuated by cyclical factors.
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Jack (Podcast Host)
Can you help us understand, obviously when we think about AI, we know that China is a major player, Taiwan in terms of supplying, you know, chips and things and but what other, what other EM markets are like maybe underappreciated or are you seeing some of this AI Capex sort of start to form? Because I don't hear a lot about other emerging markets. It's all US and China and kind of like Taiwan. That's kind of what I hear when, when you're talking about this Capex build out AI trade thing. So where else are you paying attention to?
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Ian (Guest, Portfolio Manager at William Blair)
I think in terms of the AI Capex supply chain, I think you're right, it very much is Korea, Taiwan maybe, maybe followed by China. And I think that's because you've got a higher degree of these leading companies that, that sit within those supply chains. So not just semiconductors but, but also electricals and power equipment. And there will be idiosyncratic opportunities in other countries. For example, companies that are leading the way in terms of investing in data center capacity in regions like India and Malaysia and also companies that are adopting best practices in terms of, you know, investing and leading the way in terms of being better prepared for a world where we have the mass adoption of AI capabilities. But I think for the most part you're right in zoning in on Korea, Taiwan, followed by China as being the regions where you get that AI CapEx exposure.
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Ryan (Podcast Host)
how important is when you think about em, how important is the dollar? We have a podcast we do with Jim Paulson and one of the things the charts he's shown a lot is this idea. This wasn't EM specifically, it was more international but like the performance of international versus the US and the dollar, there's like a high correlation between what's going on there. Like how important is the dollar in terms of the performance of EM relative to like something like the us I
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Ian (Guest, Portfolio Manager at William Blair)
think if you're looking at longer term trends, it's very important. So since MSCI EM started in 87, we've had two periods of outperformance for emerging markets and two periods of underperformance in a very long period of time was the underperformance between 2010 and very recently. And those coincided with either a period where we had a strong dollar leading to underperformance or a more benign dollar environment leading to outperformance. And actually since EM started to outperform again very recently, certainly 2025, we had a falling dollar benign dollar environment. And the reason why that is helpful for emerging markets is because a weaker dollar or a more benign dollar creates the conditions in which we can have looser monetary and fiscal policy in emerging markets. Policymakers in emerging markets are very much aware of inflation pass through that you get from a high dollar environment, but also very aware that companies and even governments themselves can quite often be short the dollar. They take on dollar debt and they've got a lot of expenses that are denominated in dollars, for example equipment, materials, energy and so on. And so they're very mindful of that. And that restricts their ability to promote domestic consumption and domestic oriented growth through these policies during periods of time where the dollar is very tight. So the dying dollar environment is one where we've got more conducive environments for domestic oriented growth. But then it's also, there's also another few reasons. For example, EM has a higher exposure to the material sector and that's an environment where a weaker dollar would normally be more conducive for an environment where commodities and energy prices are rising in dollar terms. But I think the key reason is just much easier environment for expansive fiscal and monetary policy.
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Ryan (Podcast Host)
In one of your pieces I was reading in preparation for this about the EM environment, you mentioned three things that are unique right now simultaneously. And I want, I want to work through them one at a time. And the first is this idea that concentration is higher than ever. And I'm thinking back to what you said at the beginning. I think if you ask most people about concentration in emerging market indexes, they probably wouldn't think about technology. But you mentioned like technology plays a big role in these indexes. So can you talk about this idea of concentration being higher than ever?
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Ian (Guest, Portfolio Manager at William Blair)
Well, I think this is a point that a lot of people don't really appreciate. It's quite something. So I actually listened to a pod you did with a recent guest looking at the concentration of the S&P 500 and I can't pronounce the name of the index. It was the HHI where I think you envisage that the S and P was being driven by just under 50 companies out of 500. Well, we did a similar exercise here, not technically HHI, but a very similar way of trying to get to the same number. And it looks like which are. All three of them are technology companies. So certainly a very high degree of concentration in the index. And that concentration is really the result of, well, primarily the result of this extreme level of performance in the tech sector, which now is over 40% of the index. But not only that, there's other things that are quite interesting at this point in time. For example, dispersion, performance dispersion. So if you look at 12 months trailing performance within EM, it's as high as it's ever been. It's equal to where it got to coming out of the global financial crisis and it's in excess of where it was coming through Covid. So that 12 month lagging performance dispersion is extreme. Which, you know, that explains partially why we've got this high level of concentration currently. And then you can see it in other sort of phenomenon as well. For example, certain factors are already working like momentum and other factors like, like fundamental stability, which is an aspect of quality, are really not working at the moment. In fact, fundamental stability year to day is, is worse than it's ever been. So it's a very unique time in em. You're reminded of that Chinese proverb, may you live in interesting times. Well, we're certainly living in interesting times. We certainly are. And it was a good choice by
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Ryan (Podcast Host)
you not to pronounce hhi as you learned in the podcast. I did make an attempt at it and it didn't go very well. So I probably should have just done the same thing. How are you thinking about going back to the CapEx in technology? Like, how are you thinking about that as a manager investing right now? Like this is the topic everybody's talking about in the US right now. Is this idea of like is this capex going to be worth it? But also like do you invest in the builders? Because with previous innovations investing in the builders has not been a great idea and it's better been better to invest downstream. Like how are we just thinking about that as an investor? Like thinking about all the impacts of this capex and, and how to think about it when you allocate a portfolio?
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Ian (Guest, Portfolio Manager at William Blair)
Well, stage one in all of these cycles is always starting upstream, starting the picks and shovels. And that that's certainly been the way to play it. And the reason being, and which I'm sure you've been told before, is that it's very difficult to envisage who the winners will be downstream at the application layer. And so we're still very much in the frenetic build out phase and so that's what's been rewarding. Clearly there's a lot of discourse on whether we're getting to the close towards the end of that frenetic capex stage, which is a very hard thing to call because there's differing data points on that. For example, on one side we're seeing the free cash flow margins of the hyperscalers really go down to negligible levels. And so we're starting to see, for example Alphabet looking at equity capital raises. We'll see probably debt being put on their balance sheet and then on the other side that the level of the CapEx is extremely large. So for the last two years, if you look at the big three hyperscalers, but then you add in Meta, Oracle and Core Weave, they're going to spend about $750 billion this year, probably more than that. And that's growing 80% this year, 80% last year. If you just roll that out to 2030, that gets me to $8 trillion of capex just for six companies, which is obviously not going to happen. So we're going to clearly see Capex fade. And so the question is how quickly it's going to fade. And on the flip side, we've got other data points to suggest that actually most layers of the stack are actually doing quite well out of this capex. Clearly the picks and shovels are doing extremely well, which is really the parts of the EM equity index that have done especially well. But then if you look at the data centers and the cloud service providers, we're seeing growth accelerate, margins really starting to improve. There at the model layer, you're seeing the leading, sort of currently leading model company starting to become profitable and seeing annualized revenue rates accelerate very, very dramatically. So lots of reassuring data points. And then at the sort of utility sort of stage, enterprises like us that are starting to use it, you're clearly seeing almost an addiction level of demand for this. So year to date, we've obviously had just a lot of reassuring data points around, you know, the ongoing nature of the Capex cycle. So it's very hard to call, which is why, you know, we, we feel it's so important to be in the right parts of the AI supply chain. If you're not able to take a call on when it's going to end, how it's going to end, or whether this Capex cycle can sustain and broaden out very significantly, then I think that the next best thing you can do is just ensure that you're in the best parts of the supply chain.
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Ryan (Podcast Host)
How much value do you find in like studying previous innovation cycles to learn from them? Like you have some people who say, like what I said before, which is if you look at these previous cycles, you know, it didn't work out that well for the builders and here's how they end. But then you have also people who are saying like, this is intelligence, like this is a very different cycle than any other cycle in the past. Like, how much value do you find in looking to the past and how Much do you think maybe this is different than what we've seen in the past?
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Ian (Guest, Portfolio Manager at William Blair)
I think a bit of both in that this time. You know, I think history doesn't rhyme as much as people maybe think in some aspects. And so every cycle is very different, but there's certain laws of nature that prevail. And so I think you do eventually need to move on from the more speculative sides of the picks and shovels exposure, especially companies providing equipment that's very long duration. And I think people in the market sometimes conflate flow and stock of long duration equipment. And I think this is something that investors are going to really focus on in, in one or two years time. When equipment being put in, particularly on the power side that lasts for 20, 30, 40 years, you, you actually more often than not see a very dramatic and abrupt downturn in demand for these. In fact, if, if you can see zero growth in the flow of the provision of this equipment while the stock can continue to grow quite dramatically. And so I think you will eventually move on from a sort of build out phase to the capital stock being more focused on maintenance and improvement of the capital stock at some stage. And that's something that investors are going to need to get right and then obviously more towards the application, the beneficiaries of application. And that's something that we continue to debate. But if you look at the advent of the Internet, that's how it played out and that's really how it's played out in a lot of these new general purpose technologies. Initially perks and shovels very painful for long duration equipment provision makers when the cycle ends and then big benefits from those that are, that can best exploit the application, the mass application of the technology.
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Ryan (Podcast Host)
How much are you using AI as an investment manager?
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Jack (Podcast Host)
Like we've talked to a lot of
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Ryan (Podcast Host)
managers and we have some who say we're just kind of getting our feet wet to others that say this is like embedded in almost every aspect of our process. Like how much value are you finding in it as a manager?
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Ian (Guest, Portfolio Manager at William Blair)
A lot. We've escalated this really over the last six to nine months. A lot of exciting things are being built. I think a lot of the information gathering and assimilation that would normally take us a long period of time is, is it can be done very quickly. And we're, we're testing ways to, to bring in or supplement more manually intensive processes like building financial models in ways that are very seamless and where we're comfortable with the accuracy. So there's a lot of experimentation, a lot of Areas where we're making great gains. A lot of people in the firm that are becoming coding experts, which is. It's much easier to be a coding expert these days. So, yeah, using it a lot. And I think like other organizations, we're going to go from a phase of everyone trying out a lot of stuff to being a little bit more centralized and. Well, I mean, I've yet to see how it play out and a little bit more optimization around how we utilize our tokens. There's an anecdote recently of a consultant saying one of their customers got through half a billion dollars of tokens in just one month because they hadn't put any guardrails around token consumption. And obviously when people are told, look, become AI natives or lose your job, you're going to use a lot of tokens. And so I think we're now moving to a stage where companies will be a little bit more stingy or more efficient and better optimized for how they get the equivalent output, but without burning through as many tokens.
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Ryan (Podcast Host)
Yeah, it is interesting because like, I think Jensen at Nvidia said that he's basically expecting people to spend almost their entire salary in tokens. So. But it's interesting to think about the other side of that, like when people are just spending tokens for the sake of spending tokens because that's a requirement, like maybe that doesn't go as well.
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Ian (Guest, Portfolio Manager at William Blair)
Yeah, actually, I think this, you know, we're obviously going to get great tailwinds and growth as more and more enterprises adopt these, these tools. But there will be some moderate headwinds as enterprises become more discerning around, around token usage. So, you know, if Jensen says, you know, use up an equivalent of your salary in tokens, you're going to jolly well do that very quickly. And so I think, I think there's a lot of incentives to use tokens very quickly. Lot of experimentation. No one wants to get left behind, whether that's enterprises or whether that's employees at organizations. And a lot of room for better optimization of usage of tokens. And so that will be a moderate headwind to growth, but I think more than offset by obviously the huge adoption curve that we're on.
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Ryan (Podcast Host)
You wrote a great piece called the Problem with Quality. And I wanted to shift to that because talk about in the piece, this idea that growth and quality have decoupled in em. So can you talk about the idea of the paper and what you were getting at with that?
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Ian (Guest, Portfolio Manager at William Blair)
Yeah, so we looked at the MSCI EM SUB indices of growth and quality. And between 2013 and 2020, gross and quality sub indices out or underperformed in the same year seven out of eight years. In the five years since it only in four out of those five years it differed in terms of whether out or underperformed the broader index. And actually in 2025 the discrepancy was huge. 20% relative performance in those two sub indices. And clearly as sort of investors focused on investing in leading companies, we certainly could see those headwinds for quality. And so we wanted to better understand that. And our view is that more often than not, both quality and growth will come together because higher quality companies tend to have higher returns on invested capital. And that higher return on invested capital is normally a function having attributes that lead to it. Sort of better management teams, better modes, better sort of capital allocation of the management teams. But then also the higher return on invested capital is fuel for future growth. You don't have to go to capital markets to propel your growth. So more often than not growth and quality will agree, but especially agreed 2013-20 and those companies that were price sort of price setting companies and companies whose attributes were more intangible sort of assets were really leading the charge in growth. And we all know those types of companies that led the charge, those sort of online platforms, software companies and so on. But since then, what's really happened is more cyclical companies and physical world companies have led the charge. And especially over the last year or two. And what we had is we had this very long sort of winter since the global financial crisis of underinvestment in many industries, whether it's around grid infrastructure, sort of shipping, we had very low interest rates and sort of in terms of materials and mining, certain areas where we'd seen underinvestment. And so what then happened is we came out of that winter in a supercharged manner because it was being very hypercharged by this AI Capex cycle. And so this underinvestment over many years was meant with extreme levels of demand. And so these price taking, cyclical companies sort of flew off seeing prices and very tight level, tight supply chains. And so those sorts of companies, whether they sit in the AI supply chain, are more just sort of commodities or banks that are benefiting from higher interest rates on their on their deposits have already benefited from that. And so sort of in more recent years we've seen that divergence between where growth has been and where quality has been.
- [32:20]
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Ian (Guest, Portfolio Manager at William Blair)
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Jack (Podcast Host)
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Ian (Guest, Portfolio Manager at William Blair)
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- [32:52]
Ryan (Podcast Host)
One of the interesting things I'm thinking about right now is this intersection of quality and disruption. So you have some of the companies like software specifically that have been considered at least in terms of the consistency of their results, some of the highest quality companies, but now you've got this disruption that's sort of disrupting that quality. So like how are, how are you thinking about the balance between those two things?
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Ian (Guest, Portfolio Manager at William Blair)
Yeah, no doubt. We, we do believe that A.I. is going to be a disruptive technology. We're seeing, you know, again, just how I've described that we're able to use it. And I think a lot of companies are just at the, at the sort of tip of the iceberg in terms of the adoption. It is, can be very disruptive, things can be done very quickly that would otherwise take people a long time. And so I think it's a problem that you need to think through and resolve for. And I think what's happened really initially is all companies, or most companies that have an intangible sort of asset base and, or where they make money through the intermediation of services or through the provision of intelligence has been sold down quite indiscriminately because a lot of them got to quite expensive valuations coming into this cycle. And so when you've got this left tail risk that you can't really figure out and you're presented with fairly elevated valuations, you just sort of leave for the exit. But now we're actually at a point where a lot of these companies have much, much more interesting valuations and where I think the market's going to become a bit more discerning around who really will be disrupted and who won't. Now we're never going to know for sure, but you can start to piece together and I think there's been a growing appreciation recently that for example software companies that are going to have pricing power, AI could actually be an opportunity because the usage of their software can actually get supercharged through greater utilization as we 247 are sort of churning out tech ins and essentially working that software. But the key requisite is you have pricing power. But the same goes for other intangible based companies like IT service companies. Will they have pricing power. And then in em, there's been a lot of focus on online platform companies and that's where we've tried to distinguish between those that have more sustainable modes, for example, have network effects like gaming companies or social media companies, or have complexities derived from them operating in the real world, for example, around quick commerce. But things like online travel agencies, you know, would be a very good example of a company that has neither and so might be more vulnerable.
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Ryan (Podcast Host)
It's interesting, this just came up in a recent podcast we did with Kai Wu. This idea that dispersion is really opportunity for managers, right? So if you're somebody who has an edge in figuring out which software companies are going to win and which ones are going to lose, you want dispersion, you want a wide variety of outcomes, because then you have an opportunity as someone who's selecting those stocks to take advantage of that versus if they're all kind of doing the same thing.
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Ian (Guest, Portfolio Manager at William Blair)
I agree. And I believe that we're on the cusp of seeing that wide dispersion of outcomes where you go from a period where there's indiscriminate pressure to dispersion of outcomes. And so I think for those active investors that can get this right, that the rewards will be there.
- [36:24]
Ryan (Podcast Host)
Another thing you got in the piece which I think is interesting is this idea of not having a stale view of quality. The idea that I'm a factor investor, so this plays into what I do a lot too is have to think about evolving your view on these things over time. So can you just talk about the importance of that?
- [36:38]
Ian (Guest, Portfolio Manager at William Blair)
Absolutely. This is one of the, I suppose, difficulties of being a quality growth focused investor is trying to avoid those traps where companies really reach the end of their sort of upward trajectory periods and go into sort of maturation or decline periods. And it's something that you've always got to be on the lookout for. But I think with the advent of AI, we'll probably see more examples of that than we have done historically. And I think one of the traps you can fall into is just looking at historical financials and assuming that that's going to be a representation of the future now quite often is a good indication of the future, those attributes that have resulted in those outcomes. But actually we really try to think more broadly about it. So we try to think about the qualitative attributes of quality. So the management teams, the moats of the business, and really the customer proposition. Do customers win? Is there a win win proposition for customers? Essentially? And then try to think about these qualitative attributes and whether they're going to be sustainable. And then on the financial side and the more data dependent side, we do obviously look at historical data and that's the easiest way to screen for higher quality companies. But we also try to look at other financial attributes, for example, zone in on incremental growth, incremental returns, and just see that we're getting corroboration there. But then also just look at market structure. We really like to see companies that have dominant market positionings or continue to consolidate their markets. And so I think it's by trying to think a little bit forward and trying to marry those qualitative versus those quantitative attributes of quality that puts you in a better position to sort of avoid sort of being in stale quality businesses.
- [38:39]
Ryan (Podcast Host)
As we go. The back half of the podcast, we thought it would be interesting just to go through some of the major regions of em to kind of get your take. And the first is China. And China is really interesting. Like I remember, I don't know how, however many years back, people were thinking like, there's going to be a real estate crisis in China and everything's going to fall apart. And it seems like they've kind of transitioned that to advanced manufacturing. And I think there was a chart in one of your papers that got at this idea. But how are, how are you thinking about China right now?
- [39:03]
Ian (Guest, Portfolio Manager at William Blair)
Yeah, well, as we all know, there's certain growth challenges that China's facing. For example, demographic trends are about as bad as they are globally for any other country. And we're also certainly coming through this. But on the back end of this overinvestment cycle, especially in the real estate industry, that we've still got legacy issues to deal with and sentiment's very weak. So we've got these both structural and secular and cyclical issues that China is still dealing with. But on the flip side, we've got this preponderance for, for involution in China, sort of over competition. And so that's another thing that has held back returns in China. Interesting opportunities for companies. And then really everyone piles in. And you know, Chinese entrepreneurs are great imitators, great innovators and great competitors. And so, and there's been an abundance of capital that's been trapped in China. And so you've got this relentless competition as well. You know, a lot of industries supported by local governments. And so that means that there are challenges, but it also means that China is the ultimate boot camp for any company to operate globally. And that's why what we're seeing now is Chinese companies are the most fit for purpose in many industries globally. And, and there's this big opportunity to move overseas where they have much higher margins, but also the working capital is much more advantageous. And so the returns on capital to go abroad is very attractive. And so a lot of companies are sort of seeing opportunities there. So I think if you're going to focus on sort of companies that you can buy and hold through the cycle in China, I think it's those companies that have these very interesting international opportunities or that operates domestically but, but operate in a way or in industries that are slightly more resilient from competition. But aside from that, I think there are also other interesting opportunities in China, but where you have to be a little bit more tactical, where there might be wind in the sails for two or three years, but you know that at the, at the back end of that, you know, you can't rule out that, that the returns will, will compress again as new entrants come in or, or, or there's new sources of competition.
- [41:31]
Ryan (Podcast Host)
Yeah. One of the things that I've learned a lot in doing the podcast is just how advanced manufacturing has gotten in China. Like anybody who seems to have touched like a BYD car or anything like that, you know, the value you get for the price seems to be like incredibly impressive.
- [41:45]
Ian (Guest, Portfolio Manager at William Blair)
Absolutely. It's quite staggering. And actually a lot of my colleagues were in China last week and one of them went to one of the manufacturing plants of, of one of the leading battery manufacturing companies. And you know, I think they're just building their ninth production line. And these production lines are over a kilometer long, very automated. And I think they just came away with the impression of how, how does anyone outside China compete with this? And, and again, in terms of battery technology just pushing the seams in terms of moving to sodium ion batteries and so on, eventually solid state. It's in China where you're going to see the lowest cost of production and the highest level of innovation because of the scale of these businesses.
- [42:35]
Ryan (Podcast Host)
How do you think about government related risk with China? That seems to be the big knock when anybody talks about China is this idea that the government can kind of step in and do whatever they want and people are just worried about the risk of that. How do you think about that
- [42:47]
Ian (Guest, Portfolio Manager at William Blair)
for systemically important businesses? It's, it's you, you can't get away from that. And so I think the only way to get away from that is to operate in, in some of these more niche areas and also to, to just have a think about the history of the business and where the, the, the promoters have come from and whether there might have been some sort of false impact earlier in this, in this, in the life of the business with, with the government such that you're conflicted. But many companies, niche companies or niche dominant companies are run by entrepreneurs that aren't conflicted and they're ne they're slightly running under the radar of the government regulation. But then I think once you get into these more systemic, the important companies just ensure that you're aligned with government policy and government incentives. And I think for me that's certainly a lesson I've learned investing in China over the years.
- [43:47]
Ryan (Podcast Host)
How about India? It seems like two things are true about India. Correct me if I'm wrong about this but one is probably has some of the best opportunities and em but on the other hand it's one of the more expensive markets in em. So how do you think about that?
- [43:59]
Ian (Guest, Portfolio Manager at William Blair)
Yeah, it remains one of the most expensive markets. It's valuation relative to EM is actually now below average versus history. So it, it's expensive versus em but, but less so than, than normal after a period of very dramatic underperformance. So since I think it September 2024 it's underperformed em by almost 90% which is quite staggering. That's more a reflection of the rest of EM going up a lot and partly reflection of India was very expensive coming into that period of time. Now it's got I think as countries go it's probably as interesting as any in terms of the longer term growth drivers and the ingredients for growth. So very low income per capita, very large population base that is young lowish credit penetration and a pro business government and a large end market that fosters that's more unifying through policies like the GST unification. So really it's a great habitat for companies to become strong and flourish. So that's all really exciting and that's why it trades at a premium to other countries. But right now it's just going through some cyclical difficulties. Higher oil prices are not particularly helpful because it's a net energy importer and it's not particularly sort of exposed to the AI CapEx supply chain and so seen somewhat as a sort of an anti AI trade. And so it is suffering under some of these cyclical pressures. But I think for long term investors just trying to identify really good companies that are attractively valued, right now is an interesting time to be looking at India. Just, I think you just need to be conscious that you don't expose yourself to some of the more extreme cyclical risks if the Iran war plays out in a really disadvantaged way, advantageous way for India.
- [46:12]
Jack (Podcast Host)
You had mentioned some of the qualitative attributes that you look at in your process, but I wanted to, I guess highlight and maybe you, you already hit on these, but sort of highlight three that, you know, you guys really sort of focus on business leadership and quality business trajectory. You mentioned relationships with customers and then also the degree to which the outlook is underappreciated relative to the valuation. And I was wondering if you could, I mean, it'd be great if you could give like a specific example. But if you don't want to give a name like is there any company that comes to mind that you could sort of take that framework and try to walk us through sort of the elements that you looked at that you saw in the company that you believed made it fit these criteria and that made it a relative, you know, good investment?
- [47:09]
Ian (Guest, Portfolio Manager at William Blair)
Yeah, no, absolutely. I'll try to be careful. I try to avoid talking about specific companies for compliance reasons, but certainly I think that the starting point is to identify companies that are either leaders or future leaders. And so I think the current leaders are slightly easier because we've got screens to help us with that. And then we do desktop work to verify that there are going to be sustainable leaders around the attributes I discussed earlier. Future leaders is something that you can screen for. But again, it takes harder work to stumble across them, which is where, you know, very deep sector coverage and a lot of travel and meetings kind of helps you to identify those. And I think, you know, the question is why bother investing in leaders? Because actually if you can get the other two pillars right, if you can get business trajectory right, and our belief is that, but the trajectory of the business will determine the trajectory of the stock. So if the return on invested capital is rising, if the growth is accelerating, if their TAMs are expanding, if the moats are strengthening, then the stock will go up and really the under appreciation or the attractive valuation of the company will determine the amplitude at which the company will go up or not. And so that trajectory plus under appreciation are the two things that really determine the outlook and amplitude of a stock. But I strongly believe that the quality of the business protects you from making mistakes. So when you get the trajectory wrong, which is very easy to do. Then it's the higher quality businesses that probably have asymmetric sort of exposure to up versus downside risk. You tend to get better protected on the downside and it's a higher quality business that, that find themselves in positive trajectory more often than not. And so that's why we're looking for quality. And it's really sort of identifying an opportunity set of higher quality businesses of which we typically have about 250 in our opportunity set. And then from there it's then which businesses are have the most attractive outlooks and are at the highest level of under appreciation. And you know, for example we can, we're at the back end of some of these but but there, there have been opportunities within some of these secular trends around power equipment, sort of energy storage solutions and, and the semiconductor supply chain where where certainly you know the trajectory has been strong and they, they came into this cycle being very underappreciated. So I think that would be an example of, of where this has played out over, over the last two or three years.
- [50:01]
Jack (Podcast Host)
It almost sound reminds me of. It sounds like like the Peter lynch growth at a reasonable price sort of strategy but applied to em I guess.
- [50:09]
Ian (Guest, Portfolio Manager at William Blair)
Correct.
- [50:10]
Jack (Podcast Host)
If I were to.
- [50:11]
Ian (Guest, Portfolio Manager at William Blair)
So that the interesting thing is now that, that you know that I've given you example of some areas where it's played out. I really think and I think Jack to your question earlier, this sort of dispersion in some of these losing areas of the market right now, it's a really interesting time to be applying that same lens to some of those businesses. And I think certainly there's examples of online platform companies where either they have those moats and attributes or where they're very large and making very good investments across the whole AI supply chain stack that they're going to be very well positioned for the future, in fact well positioned to benefit from the efficiencies that AI has to bring them. Well positioned to offer their customers a lot more and hence strengthen their modes. And I think in certain companies that's fairly underappreciated. And so again leading companies the trajectory which is is not been particularly exciting to date but might improve certainly a high degree of under underappreciation.
- [51:23]
Jack (Podcast Host)
You mentioned return on invested capital. You know, so you guys are using rather than simple multiples, you know, you're using sort of internal rates of return to think about valuation and in your valuation models, is that correct?
- [51:38]
Ian (Guest, Portfolio Manager at William Blair)
Yes, that's a really important determinant of where we're finding under appreciation. Again Take India for example, where on a headline price to earnings ratio it does look a little bit elevated. But once you put it into a model and you appreciate the outlook for the business and you discount that appropriately, you start to find some of these companies are actually very cheap. So we typically look for 10% dollarized IRRs as a sort of investment hurdle. But then obviously we try to cross that, check that against comps, for example free cash flow yields, price to earnings ratios, dividend yields, as well as try to find other sources of under appreciation. For example, where we're forecasting the outlook for a business that's significantly above where consensus house their forecast. Then again that that would point us towards a degree of underappreciation of, of the company's outlook.
- [52:37]
Jack (Podcast Host)
It's sort of interesting to think about like with emerging markets because they're different markets, there's different levels of political governance, currency risk, you know that I don't know what the long term returns are, but I, but I think maybe over the last like 40 to 50 years like the US market has probably outperformed em. And you can correct me if I'm wrong here Ian, but it's just interesting you would think that EM would compensate investors more with better longer term returns given that there's possibly more risk. But maybe I'm not thinking about it like the right way.
- [53:11]
Ian (Guest, Portfolio Manager at William Blair)
Yeah, I think a lot depends on the direction of travel and we've talked a lot about US exceptionalism in recent years and we've had this period of time where these phenomenal companies in the US have grown and emerged and dominated not just in the US market but internationally. And so I think that's something that's been quite interesting to reflect on and accounts for some of that relative performance. We've also had China go through the back end of a over investment period and that levels of over investment were quite extreme. And so that's also something to reflect on. But I think if you go back to 1987, I'm not sure what the current state is on annualized performance of EM versus the US and versus MSCI world, but I'd imagine it's something equivalent to the world index and probably slightly below the us. But if you'd looked at that same statistic maybe five years ago, EM would probably be a bit more favorable. So I think we're looking at a long term performance metric at a point in time where EM has had a very long period of lagging behind the DM index.
- [54:29]
Jack (Podcast Host)
Yeah, very, very fair point. Are you, what do you think about the global deglobalization, not globalization, almost de globalization. I don't know enough about these specific emerging markets, but in Europe it seems like, like you know, the Trump administration's, I guess, focus on de globalization, maybe bringing more things back to the US Maybe the US not being as supportive
- [55:00]
Ian (Guest, Portfolio Manager at William Blair)
of global, free global trade.
- [55:02]
Jack (Podcast Host)
You know, you would have thought on the surface that would have hurt some of these countries and maybe it did. But then at the same time it is resulting in, and I guess it's very specific to the country and what they're, what they're importing, what they're exporting. But in some ways it's forcing some countries to kind of look internally and say, okay, we gotta, we gotta spend our own money or get our own growth going because we can't be as dependent on global trade. Do you have any thoughts on that?
- [55:32]
Ian (Guest, Portfolio Manager at William Blair)
Yeah, I mean certainly globalization has stalled and you can see that in the data. But, and unsurprisingly, the current champion of globalization is probably China where they've diversified their trade enormously away from the US and towards the global South. And as I explained earlier, China's got some of the most fit for purpose companies in the world. Again, China being this extraordinary place to create lean businesses that have been confronted in the most competitive environments around the world. And so they want to export that capacity and that, you know, their capabilities. So I think that tension will exist. How other countries ex us deal with this hyper competitiveness of Chinese companies I think will continue to evolve and you know, we'll have to monitor that. And so certainly I, I think a world where we, we completely, I, I put it another way, I believe comparative advantages still exist and will continue to exist. And so the de globalization will for some time be much more focused on areas of national security and an important self sufficiency or very high tech industries. And I just feel it doesn't make sense for de globalization to be pushed too far beyond that. And so there will continue to remain a lot of interesting opportunities for companies that can offer the best products and services at the best prices away from those, those more sensitive areas.
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- [58:29]
Jack (Podcast Host)
This has been a good in depth discussion around emerging market and global investing and thank you very much. We like to ask all of our guests two standard closing questions. The first is what is the one thing you believe about investing that most of your peers would disagree with you with?
- [58:46]
Ian (Guest, Portfolio Manager at William Blair)
I'd known that you were going to ask this question and again, it's hard to think about how you're different or maybe a bit more eccentric than others. But I suppose one area where I probably peers and colleagues might point out to a certain eccentricity is I love to, amongst other things, get into a financial model. And so I like to look at the cleanliness of financial accounts, the financial mechanics behind the business, what's generating the return on invested capital. How sustainable is that? So much like a lot of people do. But I think at these points in time where thematics and whereas growth tends to be a little bit more focused upon, maybe it's a little bit different to be a bit of a sticker around continuing to spend time on financial models.
- [59:38]
Jack (Podcast Host)
And the last question is, based on your experience in the markets, what is the one lesson you would teach to the average investor? Because for our podcast, we do have a lot of investors that are retail investors, maybe not professional investors. So we kind of like to try to get at for your average investor, what would that one lesson be?
- [59:55]
Ian (Guest, Portfolio Manager at William Blair)
Well, for me, sort of having read a lot and listened to a lot of really great investors that I admire, there seems to be a consistency around finding good companies and buying them at good prices. And I think with the volatilities that the market can present you with and the relentlessness of news flow, it's sometimes easy to forget that. But to keep it simple and to focus on trying to identify good companies and buying them at good prices, how you do that can be, you know, your own framework, your own process, whether it's concentrated a bit more long term or not, and how broad you are in your definition of good companies and good prices. But I think that would be it. Just, just try to keep it simple and keep reminding yourself I'm trying to identify good companies and buy them at good prices.
- [60:47]
Jack (Podcast Host)
Good discussion. Ian. Thank you very much for joining us. We appreciate it.
- [60:50]
Ian (Guest, Portfolio Manager at William Blair)
Great. Great to meet you both. And thank you very much.
- [60:53]
Jack (Podcast Host)
Thank you for tuning in to this episode. If you found this discussion interesting and valuable, please subscribe on your favorite audio platform or on YouTube. You can also follow all the podcasts in the Excess returns network@excessreturnspod.com if you have any feedback or questions, you can contact us@excess returnspodmail.com no information on this
- [61:12]
Ian (Guest, Portfolio Manager at William Blair)
podcast should be construed as investment advice. Securities discussed in the podcast may be holdings of the firms of the hosts or their clients.