The U.S. market (S&P 500) and emerging market (MSCI EM) indexes have recently experienced extreme volatility. Aggressive rate hiking and economic fears appear to be pricing in a recession while stocks, bonds, and oil decline.
In anticipation of a rough earnings quarter, companies are assessing their spending and business operations; business confidence is down; labor costs are increasing; companies are hitting the pause button given 40-year high inflation.
The expression a diamond in the rough comes from one having exceptional qualities yet lacking refinement or polish. I’ve selected three stocks that I feel have exceptional characteristics or fundamentals, but their particular market may be highly volatile; or may have a lower per capita income; or their other factors are considered “up-and-coming” and higher risk and do not meet the standards of stocks from a developed market. Hence, my stock picks are diamonds in the rough. Investors willing to take a risk by finding high-quality bargain plays in the emerging market (EM) sector could see substantial upside because many markets are falling in excess of the U.S. equity markets. The ongoing conflict in Ukraine, and investors discounting a recession, have resulted in a drop in commodity prices.
Energy (XLE +20% YTD) has been one of the top-performing sectors. Conversely, in the last 4-weeks, the sector has been feeling the recession heat as it has dropped a whopping 22% and wiped out half the year’s price performance gains. “The macro backdrop (around a global recession) creates additional policy challenges for emerging markets, where tightening is already well underway, but inflation pressures are not yet abating,” said VanEck EM Fixed Income economist Natalia Gurushina.
As we look at the decline in various international markets, those willing to take on some risk when others are fearful could stand to gain in the long-term. Seeking Alpha offers top-rated stocks and the tools to create screens to deliver the names of fundamentally sound companies in some of the biggest developing nations. However, finding stocks in emerging markets takes a little more digging. Based on Seeking Alpha’s quant ratings, I have selected three emerging market stocks that boast Strong Buy recommendations.
Emerging Markets Today
Emerging markets could be the resilient or sleeper stock pick that investors are shying away from. Increasing consumer prices have done a number to investors’ portfolios. The rough stint that the global equities market is feeling may be creating an opportunity for investors willing to diversify their portfolios with international stocks that could provide more significant growth than that of the U.S and other developed markets. With mounting economic uncertainty and inflationary highs not seen in 40 years, the U.S. market has been down approximately 11.77% over the last year. The MSCI EM is -26.53% for the same period.
With emerging markets nearly 15% lower than the S&P 500, the time for patient investors to buy the dip may be now.
1YR Price Return SPY (S&P 500 Trust ETF) vs. EEM (iShares MSCI Emerging Markets ETF)
Diversification is critical when investing, and EM provides a great basket of options in various countries and industries, with EM as the biggest growth opportunity by 2025, reaching $30T, according to a McKinsey & Company study. We want in on the action, so we’ve picked three top emerging market stocks to invest in.
Buy Low, Sell High
3 Top Emerging Market Stocks To Invest In
The MSCI EM is on its longest losing streak since 2008, as evidenced by the Bloomberg chart above. Over the last four quarters, global equity markets are getting crushed, and when you factor in the strength of the USD, and rising global food, fuel, and energy costs, emerging markets are feeling the effects the most. As the MSCI EM is down nearly 20% YTD, emerging markets are becoming attractive for contrarians or investors looking to capitalize on the dip. Moreover, once the U.S. dollar begins to weaken, this could serve as a tailwind to the emerging markets that generate most of their revenues outside of the U.S. because American exports become cheaper. We have three EM picks that stand to benefit from a potential rebound, which we will discuss below.
1. Taiwan Semiconductor Manufacturing Company Limited (NYSE:TSM)
- Market Capitalization: $394.43B
- Quant Rating: Strong Buy
- Quant Sector Ranking (as of 7/5): 28 out of 633
- Quant Industry Ranking (as of 7/5): 9 out of 67
Let’s face it, Taiwan Semiconductor (TSM), like many stocks in this year’s first half, has gotten crushed. Down more than 40%, TSM has faced headwinds that include heightened fears of China’s invasion, lockdowns, supply chain constraints in Asia, the war in Ukraine, and recessionary worries, to name a few. And although the company is susceptible to geopolitical risks, it still derives most of its revenue and operations from the U.S. China is its second-biggest purchaser of advanced semiconductors, and neither nation wants to jeopardize their tech advancements, which is why we see strong potential in this company.
With Taiwan holding more than 53% of the world’s most advanced semiconductor manufacturing, a Chinese invasion would cut off supplies, thus paralyzing China’s tech sector. An invasion of Taiwan also differs from Ukraine in that the U.S., under the Taiwan Relations Act, maintains cultural and economic relations that include selling Taiwanese armaments – something never granted to Ukraine. Therefore, the U.S. seeks to preserve and promote stability within the nation and would unlikely allow an invasion. Recent saber-rattling with President Biden also helped reduce the uncertainty, as Biden declared force would be used to defend. Taiwan.
TSM possesses the largest semiconductor contracts by market share, which stood at approximately $85.13B in 2020. Selling integrated circuits and other products globally, from mobile devices to high-performance computing and the internet of things (IoT), the semiconductor sector, while cyclical, propels intelligent technologies. Despite shortages, semiconductors are in high demand. Used in the mastery of complicated supply chains and increasing global production capabilities, chips satisfy all-around tech needs. In addition to this stock being a strong buy according to Seeking Alpha’s quant recommendations, this stock is trading well below its value, and we love stocks with great fundamentals that are cheap. According to Seeking Alpha Contributor WideAlpha,
“We believe Taiwan Semiconductor is one of the most attractive businesses on the planet and certainly one of the few companies with operating margins above 40%. The size of TSMC’s competitive moat is enormous, which has allowed it to earn superior returns on invested capital and grow at a very high pace. Our estimate for fair value is $179, which means TSM stock would return >100% if they were to trade in line with our estimated valuation…With the company firing on all cylinders and the share price having declined significantly, the valuation has become quite attractive.”
TSM is trading at a discount, possessing an overall B- valuation grade. Forward EV/EBITDA is 7.63x, a -33.60% difference to the sector, and forward P/E is 13.29x, a 34% discount to the sector.
Given the price-to-earnings ratios and TSM’s impressive margins and growth, averaging above 20% over the last couple of years, we believe this stock comes at a great discount with continued profitability and strong earnings potential.
TSM Growth & Profitability
Although fears of a recession are increasing, limiting growth as economies enter a slowdown, the high demand for semiconductors used in multiple sectors will showcase the company’s competitive advantage and should add to profits and TSM’s stellar earnings report. Operating in multiple divisions, TSM’s revenue by platform is showcased in the below visual.
As a differentiated chipmaker at the top of its game, TSM’s growth figures include high-performance computing (HPC) and automotive divisions that lead the drive. Diversification allows the company to meet customers’ demands in various business sectors while focusing on the popular tech segments worldwide.
“TSMC’s strategy is to continuously develop multi-source supply solutions to build a well-diversified global supplier base and to improve the local supply chain. For specialty chemicals and gases, including neon and geon we source from multiple suppliers in different regions, and we have prepared a certain level of inventory stock on hand. We are also working closely with our suppliers to further strengthen the resilience and the sustainability of our supply chain” – C. C. Wei, Taiwan Semiconductor Manufacturing CEO.
Proving its continued success, TSM showcased another stellar earnings report for Q1 2022, resulting in four analyst FYI Upward revisions and zero downward revisions. EPS of $1.40 beat by $0.09, and revenue of $16.89B increased 32.10% year-over-year.
These tremendous results have allowed TSM to maintain its A+ profitability grade that includes EBITDA Margins of 67.04%, a 406% difference to its sector peers, and a cash hoard of $43.87B that keeps growing. It is no surprise that analysts continue to increase their earnings estimates. After the recent surprise earnings beat, we believe at the current discounted price, now is a great time to buy this strong buy recommendation. For a list of non-emerging market semiconductor stocks, this Seeking Alpha Quant screen ranks the Top Semiconductor Stocks.
2. Sociedad Quimica y Minera de Chile S.A. (NYSE:SQM)
- Market Capitalization: $24.18B
- Quant Rating: Strong Buy
- Quant Sector Ranking (as of 7/5): 4 out of 276
- Quant Industry Ranking (as of 7/5): 1 out of 13
The Materials Sector outperforms the broader market year-to-date, with fertilizers and agricultural chemicals +13.6% YTD. As a clean energy company taking advantage of inflation and price increases, Sociedad Quimica y Minera de Chile (SQM) continues to benefit, particularly given the tailwinds posed by the demand in the Eurozone.
A specialty chemical producer, SQM specializes in fertilizers and agricultural chemicals, producing and distributing plant nutrients and their derivatives. I wrote about SQM in March as a Best Clean Energy Stock for 2022 because lithium is used to advance battery technology. As one of its most vital minerals and specialties, lithium is expected to be utilized to reduce carbon emissions. Not only is the company involved in green energy, but it also comes at a great price and produces quite a bit of “green” for its shareholders.
SQM Valuation & Momentum
Despite a C+ Valuation grade, SQM is on an upward trend capitalizing on green energy and leading solar and industrial power sources. With a forward P/E ratio of 7.49x, the company is -33.62% difference to the sector, and its forward PE of 0.41x is a more than 60% difference to the sector, indicating this stock comes at a discount.
Year-to-date, SQM is +66% and has seen a one-year price performance of 78.63% over the last year. As showcased in its A+ momentum grade, the stock substantially outperforms its sector peers quarterly. As we look at some of the headwinds that could affect the company, we believe that the overall demand for its materials will outweigh any significant pitfalls.
Although the company has faced significant risks, including proposals to nationalize mining activities and pulling substantial royalties from the company, those plans have fallen short. We believe that SQM will maintain its bullish trend, and Augusto Pinochet, aka “The Lithium King,” and opponents of nationalization will prevent the constitutional rewrites, hoping the stock will continue to soar to all-time highs like in May, following stellar Q1 earnings.
SQM Growth & Profitability
SQM appears to be unfazed by the Chilean government’s attempts to impose environmental and mining curbs. Significant demand for lithium saw a liftoff in May, as essential materials and energy sources are helping accelerate the demand for items required for renewables, solar panels, and wind turbines to replace coal and oil.
A recyclable resource used not only in electric vehicles (EVs) but also in batteries, worldwide lithium demand grew more than 50% from 2020 to 2021, given their popularity as ’the new gold rush,’ used in smartphones, tablets, laptops, EVs, and other devices.
“With significant demand for the company’s lithium production…I am quite optimistic about SQM’s future free cash flow. Most analysts also have great expectations. SQM has a significant amount of cash in hand, which will allow management to pay capital expenditures and acquire other projects,” writes Seeking Alpha author Hohaf Investments.
SQM has a solid track record of dividend safety and growth, with a 12.27% forward dividend yield. Paying a dividend for 23 years, SQM’s diverse portfolio of agricultural resources and latest renewable energy sources, including some bio-based chemicals, should fare well for the company’s profits and growth.
Following a significant Q1 2022 top-and bottom-line earnings beat, SQM’s stock jumped nearly 5% after posting nearly 12 times an increase in Q1 net income as revenues quadrupled from the prior year to $2B amid increased lithium prices. In addition to lithium prices that spiked nearly seven times, SQM’s sales volumes also surged. SQM’s CEO, Ricardo Ramos, stated:
“Our first-quarter results reflect several positive circumstances; first, the impact of higher prices in all our business lines, where significant increases in lithium prices stand out, and second, the successful long-term, operational and commercial strategy.”
SQM experienced an EPS of $2.79 that beat by $1.37, and revenue of $2.02B that surged 282.18% year-over-year. Because SQM is a large company but maintains a low cost of production for lithium, iodine, and nitrates used in fertilizers, the company has an advantage over competitors. Especially as global demand increases, strong demand for electric vehicle adoption has also aided SQM as lithium prices rise.
As the world’s largest producer of iodine that’s used in X-rays and medical films, in addition to its commodity fertilizers, demand for SQM’s products should allow it to maintain its bullish momentum, and increased A+ profitability while trading at a relative discount. According to our quant ratings, this emerging market stock is well suited for portfolios as a strong buy recommendation. For a list of non-emerging market fertilizers and agricultural chemical stocks, this Seeking Alpha Quant screen ranks the Top Fertilizers and Agricultural Chemicals Stocks.
3. AXIS Capital Holdings Limited (NYSE:AXS)
- Market Capitalization: $4.92B
- Quant Rating: Strong Buy
- Quant Sector Ranking (as of 7/5): 9 out of 674
- Quant Industry Ranking (as of 6/27): 4 out of 47
Given the current environment, one may wonder why I’ve selected a financial company. While financials are likely to struggle given the rapid pace at which interest rates have risen and demand has been stifled, Axis Capital Holdings, headquartered in Bermuda, is in the insurance segment. Offering property and casualty insurance for buildings, residential, and many other products, insurance tends to be a business model that can hedge against inflation and is recession-resilient because insurance can generate revenue streams through underwriting fees in both up and down markets. As I wrote in 3 Best Property and Casualty Stocks,
“Insurance is a service everyone needs, possesses favorable economics, and the industry is considered relatively recession-resilient… as things get tough, individuals and companies must maintain auto and homeowners insurance coverage, which secures long-term returns for insurers with minimal downside.”
AXS possesses strong fundamentals, making it one of my strong buy recommendations. The stock comes at a discount with excellent momentum, and its growth and profitability metrics also showcase why it is an attractive pick.
AXS Valuation & Momentum
AXS comes at a discount, with an overall C+ valuation grade, a solid forward P/E ratio of 9.42x, and an EV/EBITDA (TTM) of 8.06x. With a 2.98% forward dividend yield, AXS’s overall dividend scorecard looks attractive, especially as we compare the company’s ability to grow.
Having paid a dividend for 18 years, AXIS Capital possesses a B+ dividend safety grade. While trading at a discount, its stellar A+ momentum gives us some security that the company is trending higher. With its quarterly price-performance outperforming its sector peers nearly two and three times, we believe its growth and profitability stand to continue benefiting.
AXS Growth and Profitability
Axis Capital has solid financials and a balance sheet that has allowed it to maintain its dividend payout, recently declaring a $0.43 dividend.
A strong Q1 2022 EPS of $2.09 beat by $0.42, and despite revenue of $1.81 missing by less than 2%, the company maintains substantial year-over-year operating cash flow growth of 104.87%, $1.01B in cash from operations. Eight analysts revised their revisions Up within the last 90 days, resulting in an A+ overall revisions grade.
“We’ve seen our operating income more than double as compared to the prior-year quarter. Even with some headwinds driven by business mix as we continue to reduce our exposure to volatile cat-exposed lines, we’ve delivered improvement across every key metric on our operating ratios and income statement. During the first quarter of 2022, we continue to expand our footprint in some of the most attractive specialty P&C markets, strengthened the overall quality of our book, and materially lower our net cat exposures…Our first-quarter performance was highlighted by record premiums written and earned, a combined ratio of 91.4%, a materially lower market share of global net cats, and an operating ROE of 15%,” said Albert Benchimol AXS President & CEO at the Earnings Call Meeting.
For a list of non-emerging market property and casualty insurance stocks, this Seeking Alpha Quant screen ranks the Top Property and Casualty Insurance Stocks.
Diamonds In The Rough
Although emerging market stocks are down more than the S&P 500 YTD, we see it as an opportunity to capitalize if you’re willing to take the risk and focus on stocks with solid earnings and growth potential. In times of volatility, like we’re seeing now, it is also helpful to own stocks with a solid dividend and a steady income stream. Stocks with dividends can provide an inflation hedge, which helps shield them from price erosion. Our three stocks possess many strong investment characteristics and are Quant strong buy recommendations. The bottom line on emerging markets investing in this environment is to find stocks with great fundamentals, solid profitability, and the possibility for a strong rebound.
Capitalizing on emerging market companies is an excellent opportunity for the future. Emerging markets are filled with growth-oriented companies poised to provide potential profits for investors who seek to take a little risk, diversify, and want to take advantage of stocks often skipped over by many investors. Notably, with emerging markets getting crushed, this could be an opportune time to take advantage of strong foreign companies with weak stock prices. Our three stocks, TSM, SQM, and AXS, offer a great basket in varied sectors: technology, materials, and financials. These stocks come at a valuation discount and are supported by professional investment analysts, as witnessed by upward earnings estimate revisions. TSM, SQM, and AXS offer sector-beating revenue growth and impressive profitability metrics.