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Somerset Capital Management Holds Fast in Emerging Markets

As its flagship strategy struggles, the London-based firm has kept attracting clients willing to invest for the long haul.

Somerset Capital Management, a London-based specialist in emerging-markets equities, proves that an investment can remain popular even in brutal conditions.

Emerging markets have had a tough year: The MSCI Emerging Markets index has fallen sharply, buffeted by fears about a Chinese slowdown, falling commodity prices and political problems.

Somerset’s funds reflect this turmoil. The firm’s flagship $2.7 billion Global Emerging Markets Strategy, which accounts for more than one third of its $6.5 billion in assets, has posted a –9.3 percent net return for the year as of November 30, a slightly better performance than the index.

Yet money is pouring in. In the 12 months through November 30, Somerset drew $2.1 billion in net inflows from a mixture of old and new clients.

CEO Dominic Johnson credits the rise in assets to clients’ long-term mentality. Their patience gives Somerset time for stock selection to pay off, Johnson explains. “We try not to make macro forecasts about emerging markets, but we feel we can add value as a stock picker in relatively complicated, illiquid and opaque markets.”

The key to emerging markets is staying in, Johnson adds. “Most people get shaken up by the volatility,” he says — dumping stocks if they fall sharply, as even strong equities often do in emerging markets. Somerset’s average holding period for a stock is about four years, compared with less than a year on average, according to some estimates.

Johnson co-founded Somerset in 2007 with Edward Robertson and Jacob Rees-Mogg, his colleagues at Lloyd George Management (now BMO Financial Group subsidiary LGM Investments), a London-based emerging-markets and Asia specialist. Robertson manages the firm’s Global Emerging Markets and $795 million Mid Cap strategies; Rees-Mogg remains a partner but took a nonexecutive role after becoming a Conservative member of Parliament in 2010.

Somerset operates as a partnership, with most of the equity held by the three founders and other senior managers. Two clients own minority stakes: the Manitoba Civil Service Superannuation Fund (5 percent) and Florida’s Alfred I. duPont Testamentary Trust (2.5 percent); London-based hedge fund firm Odey Asset Management, which provided seed funding for Somerset, owns a 5 percent stake.

Somerset runs several other strategies: Dividend Growth ($2.05 billion), Small Mid Cap ($723 million), Small Cap ($411 million) and Frontier ($14 million). Its funds are the PFS Somerset Global Emerging Markets Fund, PFS Somerset Emerging Markets Dividend Growth Fund, PFS Somerset Emerging Markets Small Cap Fund and Somerset Frontier Markets Fund.

Somerset has learned from bitter experience that sometimes it’s better to stay in stocks in which it has high conviction, rather than react to the twists and turns of the market cycle. Although the Global Emerging Markets Strategy rose by 53.6 percent net of fees in 2009, it had a bad year relative to the market, given that the MSCI Emerging Markets index climbed 78.5 percent. “During the emerging-markets equity crisis itself, we did perfectly respectably, but we ended up becoming more defensive at the bottom of the cycle, so we missed out on the concomitant boom,” Johnson admits.

He attributes Somerset’s survival during this disappointing time to the previous strong record of the firm’s founders, when they were managers at Lloyd George Management, and to close and trusting relationships with clients.

North American investors account for more than half of Somerset’s assets, with much of that contribution coming from pension funds and endowments. Globally, most of the clients are pension funds, endowments, foundations and sovereign wealth funds.

“Part of my job as a business leader is to give my clients a sense of transparency, which means they worry less,” Johnson says. “Firms that suddenly present their customers with a shock find it much harder to retain business, but we’re very communicative.”

Somerset’s continued faith in Türkiye Şişe ve Cam Fabrikalari (Şişecam), a Turkish glass manufacturer, illustrates its long-term approach to stock picking. The firm first purchased stakes in Şişecam in 2012 and early 2013.

“It’s a stock we’ve held onto through highs and lows,” says Henrietta Seligman, an analyst at Somerset. Although Şişecam has been hit by the economic crisis in Russia, an important export destination for its wares, and by turbulence in the Turkish economy, Seligman highlights the company’s attractions: They include strongly rising capacity, its exposure to the rebounding European economy and low debt.

For now at least, the Şişecam investment is paying off. On December 23 the stock closed at 2.99 Turkish liras ($1.02), compared with a range of about 2 to 2.45 liras when Somerset first bought it.

Edward Lam, lead manager of the Dividend Growth Strategy, gives an example of a stock the strategy has held since its inception, in March 2010: South African insurer Sanlam. “I don’t know many people who get excited by insurers,” says Lam, who thinks investors in African stocks are often so seduced by the idea of the region’s rising consumer that they forget other opportunities.

However, he notes that Sanlam is reaping the rewards of being one of the few insurers in many African countries, capitalizing on the lack of competition to take a large share of rapidly growing markets. Its stock closed at 6,089 rand ($438) on November 20, up from about 2,000 rand in early 2010. Dividend Growth has achieved a 21.0 percent net return since it began.

But since its July 2007 inception through this November 30, Somerset’s Global Emerging Markets Strategy has lost 7.7 percent of its value in gross terms and 14 percent in net terms — worse than the -10.8 percent performance of the MSCI Emerging Markets Index.  Investors who heed Johnson’s advice to sit tight may think twice if this rough ride continues.

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