Q:  How would you describe your investment philosophy?

A : We are a dedicated emerging market investor and that gives us depth, understanding and focus on that market that many global investors lack. For us, the emerging market is not a homogeneous space. Just as in the developed world, there are many different markets and asset classes with completely different risk return profiles. By a separate asset class, I mean permanent strategic allocation, not something alternative or opportunistic.

For example, the index of the local currency sovereign debt has been less volatile than U.S. government debt for nearly 10 years. This is a low volatility asset class and right now, it is probably the best hedge against dollar weakness. On the other hand, equity is highly risky in any market and even more in the emerging markets. We manage about $37.5 billion dollars in different strategies and funds. Overall, we invest in five different asset classes.

We manage dollar-denominated debt, local currency sovereign debt, special situations (which is distressed debt and private equity), corporate high yield debt and public equity.

Relationships are important for us and are built over many years. We manage money for central banks; we have policy conversations with banks and governments. We’ve helped to restructure government debt and private equity in some other countries and to build capital markets. Our philosophy is largely topdown, with a focus on scenario planning and liquidity, but also incorporates bottom-up restructuring skills.

Q:  How does emerging markets investing differ from investing in the developed markets?

A : A specific characteristic of the emerging markets is risk perception. I believe that all investible countries are risky, but in the emerging markets the risk is priced in. The flip side is that in a developed country, the domestic investor hasn’t thought about home country sovereign risk. That provides stability for most of the time, until something goes very wrong. Then, there is total panic.

And an emerging market doesn’t become a developed one because the credit worthiness improves. That’s a myth. I think the actual process of becoming a developed market is when the investor base becomes less discriminatory. That means reaching a certain level of perceived safety and invulnerability. However, it is also a license for fiscal irresponsibility, and that’s exactly what happened in Hungary or Romania once they joined the European Union.

The irony is that today the developed countries are becoming more like an emerging market and this has been a shock for many investors.

Q:  What are the unique advantages of Ashmore Group?

A : There are many factors, but the major ones are the ability to express a top-down approach and relationships.

As an investor, our particular skill in the top-down strategies is taking political and macroeconomic fundamentals and seeing how they impact the prices, particularly the prices of sovereign debt. That skill may be redundant in developed markets and it was much more difficult to apply before 1998, when many exchange rates in Asia were formally pegged. After the move to floating exchange rates, there was an impact of fundamental conditions on market prices that we were able to utilize.

The other important element is relationships and I think that is one of the biggest barriers for investors, particularly in private equity and on the sovereign side. We are large enough and we’ve been doing it for long enough to have built up a huge network of contacts and many strong relationships. That gives us access to much better information.

In terms of private equity investing, it is crucial to understand that the emerging markets are less transparent and there is no Wall Street to market stocks. In the U.S., my straw man definition of private equity is as follows: if you find a company that is 5% undervalued, buy it up using financial leverage, shout about it using a lot of PR and the press, and that creates the impression that it is worth a lot more. That’s your exit. It’s very different in the emerging world. Here, you don’t have the same market conditions. The focus may be a company, where the entrepreneur may have a problem. If he fixes the problem, then he can double the value of his company. But if his competitor works out what he’s up to, then he has a real problem. In that situation, the entrepreneur does not want any publicity and wouldn’t want to involve the investment banks. He / she prefers to go to one trusted source of finance and restructuring advice, which is not necessarily an investment bank or a bidding process. In the emerging markets, you make a lot of money by effectively becoming a partner with such entrepreneurs in a constructive way. It is crucial to consistently build a brand of being fair and reasonably discreet. That takes a long time.

One of our major strengths is that we work only in the emerging markets and we have a clear incentive to establish a long-term relationship with a country for the next 20 years. For us, it is not an option to move in and out. At the same time, however, we are big. In one country, we bought 40% of the externally traded debt, when the IMF was trying to force them to default.

Q:  What’s your strategy for managing money in that market?

A : We utilize two approaches to money management. First, we have a very topdown approach with a huge focus on liquidity. It is based on scenario planning and management of country risks. This approach is expressed in the asset classes of sovereign debt, local currency sovereign debt and public equities. For the other two strategies, we have a more bottom-up approach and we aim to have much more control over the companies.

These two approaches ensure that we have either liquidity or control in the uncertain world of the emerging markets. Both of these give us the ability to manage risks. We’re not interested so much in the in-between situations; we want either huge liquidity or real control.

On the research side, I’m a reformed quant. I have even taught econometrics, economics and statistics at Oxford for a while. However, the problem with any quantitative technique is that it precludes the very possibility of picking up any structural shifts in data.

Certainly, in emerging markets, we want to get the macro factors right. Ten years ago, one of our big advantages was understanding politics better than other people, being much closer to local politicians and to international politics. That’s relatively well understood now and many asset managers do that reasonably well.

Today, our advantage is more about the behavioral rather than the technical aspects of the market. We visit the countries regularly and spend a lot of time discussing the market technicals with local investors. We work out what they think and what they might do in certain situations. Conversely, they want to talk to us because they are interested in what we think.

That is our research edge. This is a market where there are very big information asymmetries. I believe that we often have taken less risk throughout than other managers, because we have had much more information. We may have had more market-to-market volatility on occasion as we are willing to buy into falling markets if we see value, but there’s a huge difference between volatility and risk.

Q:  What is your investment process?

A : The key decision-making body is the Investment Committee, which consists of four people and the wider investment team of 23 portfolio managers who execute those collective decisions with some discretion. There is nothing they do, which is not either agreed upon or ratified at the weekly Investment Committee meeting.

Overall, we can split our five asset classes in two camps that we manage with our two approaches. For dollar debt, local currency and equities, we utilize a top-down approach that is managed at the weekly Investment Committee meeting. For special situations (which is distressed debt and private equity) and corporate high yield, we have a separate monthly meeting. The first camp is expressed through highly liquid instruments. In special situations, we have much, much higher rates of expected return, but limited liquidity.

In our weekly meetings, we first go through global scenarios with all the portfolio managers in one room. Of course, we follow the global marketplace every day, but during the weekly meetings, we formalize and consider specific scenarios. Even when we have a consensus on the developments, we also consider Scenario B. Then we think through scenarios for specific countries, specific portfolios and categories.

Within each category, we have different types of portfolios with different risk tolerances. In local currency debt, we actually have a couple of different indices, with little duration and longer duration. In dollar-denominated debt, we have portfolios with different restrictions. Many of the portfolios have the capacity to cross invest into local debt, corporate debt and special situations. These portfolios are much like fixed income multi-strategy funds.

The general principle in all the portfolios, however, is the same. First, we consider the overall portfolio and its sensitivity to external conditions. Then we look at the global exposure to particular events that we’ve identified. If we see a particular geopolitical risk, a particular risk coming out of China or in the U.S., currency risk or oil price risk, then we estimate the impact on the overall portfolio.

It is a very top-down approach and risk is absolutely central to the way we manage money. We think about how to construct portfolios with an acceptable level of risk in any scenario. Then, we can add positions thinking about upside risk as well. If we see opportunities, we take advantage of them as much as possible. We think about liquidity in terms of how it may change. It is not about past correlations, but how correlations can break down or change in a specific scenario. That’s a very behavioral, not a quantitative approach.

We use quantitative or macroeconomic models as tools, but we are never overly dependent on them, because we know that market conditions can change abruptly. Instead, we try to understand the market structure, and the behavior and incentives of all the market participants so that we can anticipate their reaction in specific conditions.

Once we’ve done that, we go into country selection. The instrument selection is largely driven by liquidity considerations. That process is repeated for each portfolio in dollar denominated and local currency debt. In equities, we add sector themes and obviously, stock selection involves a more bottom-up analysis.

Q:  Would you describe your approach towards the second camp, where you focus on control?

A : In the less liquid camp, special situations and corporate high yield, there is a more traditional bottom-up process. Currently, we have 45 deals in special situations. There are typically two or three people working on a deal, and an individual is typically working on two or three deals at a time.

The structure and the incentives aim to achieve a lot of synergy not only within the groups but also across the firm. The result is that people aren’t protective about their deals in the monthly meetings, but we review and discuss the deals we want to focus on.

Typically, those are deals with 35% to 40% non-levered expected rate of return. The typical deal size is between $50 and $500 million. If it is already on the books and we have an obvious buyer, we will sell it. We have about $9 to $10 billion invested in special situations and private equity, and companies with about 50,000 employees. So we have quite a lot of resources in some big, strategic companies.

We have an energy company, for example, which is probably the largest energy company of its type in the emerging world. It does gas transmission, electricity distribution and generation through a wide network of companies all over the emerging world. Clearly, we have the ability to use some of the resources in a way that’s helpful for developing new business.

In corporate high yield, we provide growth finance for pre-capital market companies. It is typically reasonably short-dated debt that we hold to maturity. That’s very different from the private equity model, but requires a similar set of relationships.

Q:  Any specific example that illustrates your research process?

A : Brazil is a good example because of the turbulence on the sovereign side over the years. In December 2001, when Argentina defaulted, there was concern that Brazil might follow suit. That concern was completely unjustified because the two countries don’t have a huge amount of economic or political linkages, but it was fueled by Wall Street analysts.

Banks in New York were cutting off funds to Brazilian corporations and there was fear that it could result in a big crisis and solvency problems. It didn’t happen because Brazilian companies were not particularly leveraged; they paid off the debt with almost no default. But it translated into a liquidity problem at the central bank, because the businesses were demanding dollars. Wall Street was fixated on that problem but Brazil was completely compliant with its IMF program and fulfilled all the criteria for getting a $30 billion package. It was easy to predict.

At that time, Wall Street research wasn’t thinking ahead. It was analytical, not strategic, while we were thinking ahead. That’s why we took a very large position in Brazil and we traded on top of that. We made profits because, eventually, the market came to the same conclusion - the country could be completely cut off from capital for 12 months and still wouldn’t default. It was an important part of the emerging market history because it was the first time when a major country suffered a universal buyers strike in New York and the self-fulfilling prophecy that if enough people think it’s going to default then it would default, really didn’t work.

Q:  We have survived the 1998 crises, the Russian ruble crisis, and the Asian currency crisis, and we face crises in the ‘developed’ markets as well. What safeguards do you have and how do you prepare for such challenges?

A : First, we’ve been doing this since the ‘80s and the crises in 1997 and 1998 were a less dramatic experience than the 1994 crisis. In Asia, Thailand was the first country to be hit and I was pretty bearish about Thailand beforehand. That was quite obvious because the IMF had been clearly giving Thailand warnings and was receiving inadequate response. Of course, the details of the Asian crisis were not predictable but, certainly, its beginning was predicted and widely understood by macroeconomists.

In the particular case, we were very active. We didn’t have perfect hindsight and we didn’t know exactly how things were going to unfold. But we did stay in very close contact with IMF officials, and we did make a lot of money after the event. We launched the first pan- Asian multi-asset class fund, the Asian Recovery Fund, which is still in existence today. We participated in the sovereign restructuring of Indonesia, and we subsequently invested heavily in distressed debt and private equity.

We’ve helped a number of industries to effectively restructure and get back on their feet. So, we can participate in the restructuring and recovery process in a constructive way. In many cases, you start with government restructuring and then move to banks and utilities which, otherwise, would require taxpayer money to bail out. Then you get into assets, where the company operations are fine, but you have distressed sellers, or a capital structure, which has a currency mismatch. Eventually, you get into more regular restructuring and private equity.

But the worse a crisis becomes, the easier it is to predict. The Argentina default was probably the easiest call in history, and I don’t believe that anybody who didn’t foresee it should be investing other people’s money in emerging markets. It was obvious, and the big calls are often quite easy. Timing is never easy, but the macroeconomic imbalances are there for everybody to see. It is just that not everyone pays attention.

One of our big synergies in managing equity portfolios is being good at the macro level. Stock selection may helps us, but it is complementary. Our strength is clearly on the top-down macro approach, on getting the exchange rate dynamics right, and getting the sovereign credit dynamics right. The Asian crisis is a good example of being aware of the problem early and avoiding any damage.

Q:  How do you see the future of emerging markets investing?

A : The future of investing in emerging markets is largely about seeing it as a number of different asset classes coming from economies, which are likely to represent about 50% of the global GDP in 15 years. If you manage a pension fund with 15-year liability structure, you have to start thinking about investing 35% or more of your portfolio in emerging markets, not just through equities or sovereign debt, but through many different investments.