AEF - AEF: Sell Signal Was Correct

Summary

• Thirteen months ago, I placed a Sell rating on the abrdn Emerging Markets Equity Income Fund.
• Even compared to both the iShares MSCI Emerging Markets ETF and the SPDR S&P 500 Trust ETF, that was the right call.
• This article takes an updated review of the CEF. Compared to other Emerging Markets funds, AEF has to lowest returns and highest risk. Investors still need to avoid this investment choice.

(This article was co-produced with Hoya Capital Real Estate )

Introduction

In 1854 Horace Greeley gave a gentleman a famous piece of advice. "Go West, young man, and grow up with the country." That is where the United States was growing the fastest, an opportunity to "strike it rich" was still possible. In the 1960's, in the movie The Graduate , Dustin Hoffman's character got a one-word suggestion for getting rich: "plastics". For as long as I can remember, one "pot of gold" for investors was Emerging Market stocks. Today, there are close to 200 funds that invest in some part or parts of the EM world. One site listed an additional 20+ funds that invest only in EM debt. Like to Old West or plastics decades ago, EM countries have the fastest growing economies in the world, with one, China, being the second largest economy! I cover that topic some under the Portfolio strategy section. This article focuses on the abrdn Emerging Markets Equity Income Fund ( AEF ), even with its rise off its November 2022 low, is down 20+% since my prior article. Compared to other Emerging Markets funds, AEF has to lowest returns and highest risk. Investors still need to Avoid this investment choice.

abrdn Emerging Markets Equity Income Fund review

Seeking Alpha describes this CEF as:

[The] Abrdn Emerging Markets Equity Income Fund is managed by Aberdeen Asset Managers... It employs fundamental analysis with a bottom-up security selection approach to create its portfolio.

Source: seekingalpha.com AEF

When looking at this CEF, it is critical to note that the current version emerged from the reorganization of seven closed-end funds into the Aberdeen Chile Fund on April 27, 2018 when it became the current worldwide AEF CEF. These are the funds that merged.

Data prior to the merger should be ignored.

AEF has $316m in AUM, with investors seeing a 6.4% yield. Fees are broken down as and currently total 131bps:

• Management fees: 86bps
• Other expenses: 34bps
• Leverage costs: 11bps on a 15% leverage ratio

From what I found, these are from 1/31/21. Seeking Alpha lists fees at 177bps, which I suspect is more accurate since leveraging costs would have soared last year.

AEF holdings review

The first table, country based on ISIN code, has limits to its usefulness as almost half the countries, representing 36% of the portfolio weight, are not officially considered EM countries.

The US listed ADRs/GDRs are almost all for Latin or South American stocks. Most of the Cayman Islands ones are the Hong Kong issues of Chinese companies, as would the Hong Kong listed ones be. Adjusting for that, China becomes the largest allocation at about 32% of the portfolio. Currently, the CEF holds little in terms of private placements, but it may invest up to 30% of its total assets in private placements of equity securities.

Top holdings

Of the current 80 active stocks held, the Top 20 are 51% of the portfolio; the Bottom 20 are only 7%. AEF holds shares in three Russian stocks which they have on the books for $0 value.

AEF distribution review

The managers follow a distribution policy for this CEF, as stated:

The Fund has a managed distribution policy of paying quarterly distributions at an annual rate, set once a year, as a percentage of the rolling average of the Fund's net asset values over the preceding three month period ending on the last day of the month immediately preceding the distribution's declaration date. In June 2022, the Board of Directors of the Fund (the "Board") determined the rolling distribution rate to be 6.5% for the 12-month period commencing with the distribution payable in June 2022. This policy will be subject to regular review by the Board.

Source: AEF Semi-Annual report

This CEF has cut $.01 from each of the last five payouts. If I understand the above policy statement, the rate adjusts as the NAV moves to an amount equal to 6.5% return. This means investors need to worry not only about the price they can trade at, but the underlying value of the asset, or NAV. In 2022, little of the payouts came from ROC (6-10%), but in 2021 the percentage was over 64%.

AEF price and NAV review

The next chart shows the above relationship clearer, the data starts just before the merger.

The current discount is 10.44%, less than the 14% that was available recently. This is reflected in the poor 3-month Z-score of 1.58 (negatives are better). With 8% appearing to be the tightest gap, owning for discount shrinkage seems to have passed for now.

Performance review

Here I will compare this Emerging Markets fund against some well-known competitors, not all of which are CEFs. Selection required data back to when the AEF merger occurred.

While AEF held its own up to the COVID market break, since its merger-formation, it places last amongst the maximum number of funds I could add to the chart. When looking at risk data, it places last in almost everyone.

In summary: worst returns + highest risk.

Portfolio strategy

What to the investment experts see of EM countries. Here a few outlooks.

JPMorgan's view is:

At 2.9% in 2023, EM growth looks to remain well below its pre-pandemic trend, slowing modestly from 2022. EM excluding China is expected to slow to a below-trend 1.8% with wide regional divergences. In China, the full-year 2023 growth forecast is 4% year-over-year, where two quarters of below-trend growth are assumed as the economy loosens COVID restrictions.

Source: jpmorgan.com/insights

That said, charts provided by Lazard Asset Management indicate EM stocks are "cheap" compared to the overall World and in relationship to EM historical levels.

Emerging markets valuations, on both a price-to-earnings (P/E) and price-to-book (P/B) basis, are cheap in absolute terms and relative to developed markets equities. Emerging markets have been trading at a 35% discount to developed markets on P/E terms and at a 44% discount on P/B terms, among the cheapest discounts in nearly two decades (Exhibit 9 above). The 1.6x superior dividend yield for emerging markets (3.3% versus 2.1% for developed markets) is three standard deviations above the 23-year average relative yield.

Source: lazardassetmanagement.com

The Conference Board is predicting that EM Countries will account for over 60% of the world's GNP by 2035. As the chart below shows, these countries account for much of recent and project growth in GDP.

Final thoughts

Here is a link to my prior article; the title reveals my rating: " Aberdeen Emerging Markets Equity Income Fund Worth Skipping ". One great feature of Seeking Alpha is readers get opinions that differ, sometimes greatly, on the same fund. Avisol Capital Partners penned the following last November: " AEF: This EM Fund Is Investing In The Right Markets And The Right Sectors " and gave AEF a Hold rating. To be unbiased, I did not read their article before submitting my updated review.

Compared to other Emerging Markets funds, AEF has to lowest returns and highest risk. Investors still need to Avoid this investment choice.

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