Despite its recent reputation as a high-risk, 'radioactive' asset class, authentic value investing is fundamentally about risk mitigation. The core principle is to purchase assets with a substantial margin of safety, creating downside protection, which is the opposite of a risk-seeking approach.
The blanket assumption that State-Owned Enterprises (SOEs) are poor capital allocators is flawed. Investment success depends on the price paid for the risk, not on avoiding SOEs entirely. Some SOEs are effective capital allocators, while many private companies are not, making a case-by-case analysis essential.
During periods of country-specific fear or uncertainty, investors sell off all assets indiscriminately. High-quality companies are discarded along with low-quality ones, making country-level risk analysis more critical for investors than sector or individual company analysis.
Despite widespread sentiment that China was uninvestable, the country became one of the world's best-performing markets. This demonstrates how a powerful negative narrative can create significant opportunity for contrarian investors who focus on fundamentals, as the cheapest quintile of Chinese stocks remains attractive.
A simple but highly effective due diligence check for emerging market companies is to verify if their auditor has changed in the past 10 years. An auditor change often signals that something was amiss with the previous accounting, providing a crucial warning sign for investors to investigate further.
When a strategy like 'buying the dip' is consistently rewarded, it shifts from a considered thesis to a subconscious, calorically cheap habit. This becomes dangerous when the underlying market payoff function (e.g., interest rates) changes, as the ingrained behavior persists even when it is no longer rational.
For a long-term (5+ year) value investing strategy in emerging markets, hedging currency exposure is typically too expensive to be viable. The approach relies on the assumption that when buying into a country under pressure, significant currency devaluation is already priced in, making the high cost of hedging unnecessary.
Unlike complex Western banks, most emerging market banks operate on a traditional 19th-century model: they take deposits, extend loans, and capture the spread. This simplicity allows investors to focus on fundamental analysis of capital base, loan quality, and deposit ratios without navigating opaque investment banking or insurance divisions.
Citing research from Verdad's Dan Rasmussen, the speaker notes that EM assets perform best when purchased during a crisis that originates in developed markets (e.g., the GFC or COVID). Panicked selling creates widespread mispricing in EM, even though the region is not the source of the crisis, offering a prime buying opportunity.
Fueled by AI enthusiasm, Taiwan's market now trades at a 32x cyclically adjusted P/E, approaching India's historically high valuation. A single company, TSMC, represents 13% of the benchmark and trades at 65x CAPE, creating significant concentration and valuation risk for the entire market.