Ivy Emerging Markets Equity Fund

03.31.20

Market Sector Update

  • The first quarter of 2020 proved to be one of the more volatile quarters in history. Emerging markets, where the root cause of the volatility began, included the best and worst performing markets in the world.
  • In what seemed to be setting up as strong year for emerging market equities, this quickly reversed when COVID-19 began to spread across China just before the Lunar New Year. While China was slow to recognize the potential impact of COVID-19, once they did they were quick and strict in their lockdown of the population. Because of these strict measures, they were able to get over the worst of the virus just as it spread to the rest of the world.
  • Ironically, China ended up as the best performing market in the world, only declining slightly more than 10% for the quarter. South Korea, Taiwan, and much of the region managed to slow the spread of the virus, creating a model for the rest of the world to follow – economic shutdown. This strategy has impacted select emerging market economies more than others.
  • The pause on economic activity along with a conflict between Russia and Saudi Arabia caused a historic rout in the oil markets. Demand destruction is at historic levels and, until Russia and Saudi Arabia can agree on supply cuts, there is an overabundance of oil. This is adding to pain for commodity exporting nations like Brazil and Russia. Brazil was down more than 50% and Russia down more than 36%, when accounting for the negative currency impact.
  • India, which has been facing some economic malaise over the last year, was negatively impacted when they implemented strict measures to contain the virus. Like other areas of Asia, they are using extreme measures to stop the spread with the intent on having a shortened economic shutdown. This will have a sharp near-term negative effect.
  • Brazil, which has performed well over the last two years, rolled over as a pause of the economy derailed improving fundamentals. The currency also had a big impact on U.S. dollar based returns. They have not implemented virusrelated restrictive measures at the federal level, but most of the larger states, corporations and individuals have voluntarily shut down.
  • Emerging market currencies were in turmoil during the quarter as concerns over economic strength became a focal point with COVID-19 and oil prices. U.S. dollar funding also became a concern. To relieve the stress, the U.S. Federal Reserve (Fed) increased swap lines with certain countries. Thus far, the strategy has helped.
  • Overall, this was an unprecedented quarter for emerging markets as it was for all capital markets around the world. On the positive side, the largest emerging market economy, along with other significant economies in that region, are further along in the recovery stage. While they will need the U.S. and European economies to be running again in order to thrive, we believe internal consumption should provide needed support to limit the fiscal burden.

Portfolio Strategy

  • The Fund ended the quarter roughly in-line with the benchmark index as the sharp downturn in March erased the relative gains from January and February. Performance detractors were primarily in financials where Indian banks as well as several banks located in commodity exporting nations were particularly hard hit. Health care stock selection was also poor, and an overweight to Brazil detracted from performance.
  • The top detractors on a relative basis were Petrobras, a Brazilian oil company, Capitec Bank Holdings Ltd., a South African bank, and Banco do Brasil S.A., a Brazilian bank. Brazil was the worst performing emerging market during the quarter. In South Africa, where the economy was already facing challenges, the addition of COVID-19 caused the banking industry to rollover.
  • On the positive side, an overweight and stock selection in consumer discretionary contributed to performance as well as an overweight to communication services. China was also a relative contributor with both an overweight allocation and strong stock selection benefitting performance.
  • The largest relative contributors were JD.com, Inc. ADR, a Chinese ecommerce company, Tencent Holdings Ltd., a Chinese internet juggernaut, and NetEase.com, Inc. ADR, a Chinese online gaming company. The common thread amongst these contributors is their exposure to the Chinese consumer and ability to operate their businesses despite widespread shutdowns. In fact, online gaming thrived during the shutdown.
  • To end the quarter, the largest sector overweight in the Fund was to consumer discretionary. This reflects our conviction in companies with perceived long-term competitive advantages that should thrive from the emerging market consumer. The largest underweight in the Fund is financials. Regionally, the largest overweight is to China and the largest underweight is to Taiwan. Over the quarter, the most significant changes in country exposure included a decrease to Brazil and an increase to China. Before the crisis, we believed Brazil’s stock market had become slightly extended and growth was faltering. When oil prices collapsed, this made the country even less attractive in the near term. China remains a key area of focus and we believe the recent volatility created some attractive buying opportunities for the Fund.

Outlook

  • As we enter the second quarter of 2020, there are still questions yet to be answered. Mainly, how long will COVID- 19 dampen economic activity and how long will oil stay depressed? In emerging markets, heterogeneity amongst countries and industries has surfaced as a key characteristic in investing under these conditions.
  • While we still believe in the long-term prospects of many areas of emerging markets, we believe certain areas are better positioned in the current environment. North Asia (China, South Korea and Taiwan specifically) are further along in the progression of COVID-19. While secondary “waves” or outbreaks may occur, these countries have also proven they have the ability and technology to implement the advanced measures needed to slow the spread. For these economies to be at full strength, they need the global economy to be on track, but as they allow their population to move freely and work, it will help support certain pockets of commerce.
  • In other areas of emerging markets, like India and Brazil, we believe the path is more difficult. They are large economies and early in the progression of the virus. How they execute on containing the virus and the sooner they can restart their economies will be a key determinant of performance. We are watching the progression as the laggards may face the risk of getting decoupled and isolated from the global economy. We believe the long-term prospects for these nations are positive, but they may be challenged in the near term. Brazil was on a positive path entering 2020. The future is not entirely dependent on oil, but the equity market may trade in line with oil prices in the near term. Oil prices make it difficult to execute the full extent of their fiscal strategy, though we feel specific companies remain compelling.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through March 31, 2020, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

Top 10 equity holdings as a percent of net assets as of 03/31/2020: Tencent Holdings Ltd., 9.0%; Samsung Electronics Co. Ltd., 7.9%; Alibaba Group Holding Ltd. ADR, 7.9%; Taiwan Semiconductor Manufacturing Co. Ltd., 7.3%; JD.com, Inc. ADR, 3.6%; Yandex N.V., Class A, 3.3%; Reliance Industries Ltd., 3.2%; MercadoLibre, Inc. 2.8%; Ping An Insurance (Group) Co. of China Ltd., H Shares 2.5% and NetEase.com, Inc. ADR 2.3%.

All information is based on Class I shares. The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. These and other risks are more fully described in the Fund's prospectus. Not all funds or fund classes may be offered at all broker/dealers.