Small Emerging Market Companies Driving Big Innovations

Amid seismic disruptions from COVID-19, global equity markets remain enamored with technology giants.

Franklin Templeton Emerging Markets Equity

PREVIEW

Amid seismic disruptions from COVID-19, global equity markets remain enamored with technology giants. So far this year, market valuations for titans like Apple and Tesla have soared like a SpaceX launch, albeit with some recent volatility. The same holds true for China’s e-commerce and tech giants, like Alibaba and Tencent. Post COVID-19, the pace of China’s digitization has noticeably quickened, with more consumers shifting their buying habits from offline to online.

And yet, we continue to see big and bold innovations coming from firms in emerging markets with small market capitalizations (caps). By examining key global trends, our research analysts home in on small companies situated at the apex of transformative investment themes with strong tailwinds. Despite recently lagging companies with larger market caps, we think small-cap opportunities abound, particularly in companies tightly aligned with powerful macro trends.

The following discussion covers two accelerating trends—biometric wearables and electric “e-bikes”—and two companies with business strategies that illustrate these trends.

The first trend lies at the intersection of wearable technology (fitness bands and smartwatches) and early COVID-19 detection. One firm in China that got our attention did so by its mastery of “edge artificial intelligence (AI) chips” that place sophisticated algorithms directly on your wrist or inside your ears via biometric wearables. Founded in 2013, Huami’s ambition of connecting health with technology has been fast-tracked by a COVID-19 study involving 1.3 million wearable users across China and Europe.

Our second trend is consumer premiumization—overlaid with reduced carbon emissions—via electric e-bikes. As COVID-19 has scrambled how white-collar professionals commute to work, we examine how permanent infrastructure changes in many large European cities are making e-bikes a key strategy to combatting climate change.

One company that is better positioned to capitalize on this theme, Merida, does so by targeting Europe’s discerning urban and mountain cyclists who expect premium e-bike features and engineering.


WHAT ARE THE RISKS?

All investments involve risks, including possible loss of principal. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Investments in foreign securities involve special risks including currency fluctuations, economic instability and political developments. Investments in emerging market countries involve heightened risks related to the same factors, in addition to those associated with these markets’ smaller size, lesser liquidity and lack of established legal, political, business and social frameworks to support securities markets. Such investments could experience significant price volatility in any given year. Investments in smaller-company stocks carry special risks as such stocks have historically exhibited greater price volatility than larger-company stocks, particularly over the short term. Value securities may not increase in price as anticipated or may decline further in value. Additionally, smaller companies often have relatively small revenues, limited product lines and a small market share. Investments in fast-growing industries like the technology sector (which historically has been volatile) could result in increased price fluctuation, especially over the short term, due to the rapid pace of product change and development and changes in government regulation of companies emphasizing scientific or technological advancement or regulatory approval for new drugs and medical instruments. China may be subject to considerable degrees of economic, political and social instability. Investments in securities of Chinese issuers involve risks that are specific to China, including certain legal, regulatory, political and economic risks.

The companies and case studies shown herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton Investments. The opinions are intended solely to provide insight into how securities are analyzed. The information provided is not a recommendation or individual investment advice for any particular security, strategy, or investment product and is not an indication of the trading intent of any Franklin Templeton managed portfolio. This is not a complete analysis of every material fact regarding any industry, security or investment and should not be viewed as an investment recommendation. This is intended to provide insight into the portfolio selection and research process. Factual statements are taken from sources considered reliable, but have not been independently verified for completeness or accuracy. These opinions may not be relied upon as investment advice or as an offer for any particular security. Past performance does not guarantee future results.

As of June 30, 2020, Huami represented 0.08% and Merida represented 0.20%, of the total net assets held in funds managed by Franklin Templeton Emerging Markets Equity.