I had the pleasure of interviewing Michael, who runs a fund specializing in crisis investing in emerging and frontier markets.

His model is pretty simple, when there is a major crisis or major change happening in a country, he goes there to see if there are any quality, cheap listed stocks to scoop up. If there are, he buys them and then waits until a re-evaluation.

Currently his fund is:

  • 29% Uzbek equities
  • 17% Argentine equities
  • 16% Egyptian equities
  • 14% Turkish equities
  • 7% Nigerian equities
  • 5% South Asian equities
  • 11% cash

In this video we went into in-depth discussions on Argentina, Egypt, Turkey, and Nigeria. We did not discuss his largest holding, Uzbek stocks, which I am very bullish and long, but that I discussed in depth in a recent video.

Michael also elaborated on his methodology. It’s a longer interview than usual, but we cover a lot of ground.

Alternatively, you can read the transcript below

Obviously, such type of investing is not for the faint of heart, as literally every week one of these countries will be making CNN international headlines for the wrong reasons.

Feel free to get in touch with Michael if you have questions: mmcgaughy@fusionwml.com

To a World of Opportunities,

The Wandering Investor

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Full transcript of the video on investing full-time in crisis-laden emerging and frontier markets

LADISLAS MAURICE: Hello, everyone. Ladislas Maurice from thewanderinginvestor.com. Today, I’m very happy to be talking to Michael. Michael is a fund manager. And it’s a very unique fund that he runs. Essentially, it specializes in frontier markets, and even more so in frontier markets that have recently been through a crisis. Before we talk to Michael, just to give an idea of what he’s invested in his fund, he’s 29% in Uzbekistan, 17% in Argentina, 16% in Egypt, 14% in Turkey, a bit over 7% in Nigeria, and then a bit in South Asia, Pakistan, and Sri Lanka, and then 10% in cash. It’s quite a unique composition for a fund. Michael, how are you?

MICHAEL MCGAUGHY: I’m good. Thank you very much for having me on your show. I’ve been a big fan for several years and feel very honored and privileged to join you today.

LADISLAS MAURICE: Thank you, Michael. Can you tell us a bit about your background and how you came about to starting such a fund?

MICHAEL MCGAUGHY: Oh, sure. And just to kind of let you know, it’s not strictly a frontier fund, just so happens that the markets that have crashed since I started the fund are classified as frontier. In fact, some of them aren’t even frontier, the MSCI reclassified it was Standalone, Uzbekistan is not even on the MSCI radar, basically, at this point from what I can see. My basic investment thesis is to invest when and where there’s a crisis. And it just so happens there’s a lot more emerging and frontier markets than there are developed markets. And in fact, a lot of times, the frontier and emerging markets, they have what I call idiosyncratic crashes versus the developed markets, which tend to be more correlated with each other.

In terms of my background, I went to Asia the first time as an exchange student in 1986, when I went to Hong Kong. My first investment job was in 1989, as the China analyst based in Hong Kong, and that was just before the Tiananmen Square incident in Beijing. And I thought they wouldn’t need a China analyst at that point, so I thought I’d be out of a job. But, luckily, the Indonesian stock market opened up for foreign investment a few months later. I was a new kid on the block with nothing to do, so they sent me down to Indonesia, and I started writing research on that market when it just had 24 stocks, only 7 of them were open for foreign investment.

Within about three, four years after that, there were about 400 listed companies, and it was definitely on the radar of emerging markets managers. And I’ve been involved in emerging markets, mostly in Asia, ever since. And then I’ve been running the strategy, first, with my own money for five years, and then as a fund for the next five years.

LADISLAS MAURICE: Fantastic, yeah. So you have seen quite a few ups and downs, you lived through the Asian financial crisis, etc. Can you tell us a bit more about your overarching methodology?

MICHAEL MCGAUGHY: The methodology I have is basically based on a lot of my experiences, kind of what you said, a lot of it was based on going through the Asian financial crisis, and then looking back as to what worked and what did not work. In the Asian financial crisis, everybody’s selling at the same time, stock prices, people panic, the currency goes down, the stock market goes down. Equities reach extremely, extremely low valuations. Nobody wants anything to do with places like Indonesia or Southeast Asia at that point. But turns out if you look at the data or backtracking, that would have been the absolute best time to buy those markets. We did some back testing in Indonesia. 10% of the stocks that were listed in Indonesia at the time became 100 baggers, if you had bought them in the bottom of the Asian financial crisis, and that’s in US dollars.

We looked at one company, and the difference between the quality companies and the not quality companies can be extreme. We looked at one group called Astra International. Astra International was a high quality company run by good people, good alignment between minority and majority shareholder interests. If you had bought that at the bottom of the Asian Financial Crisis till now, you’d be up over 200 times in US dollars. And that’s not including dividends or dividends reinvested, just pure share price in US dollars.

LADISLAS MAURICE: And how long after the beginning of the crash did these markets reach a bottom?

MICHAEL MCGAUGHY: Indonesia reached the bottom– the crash and the– I think it was July 1 or beginning of July 1997. You had riots in Jakarta in, I think, was March of 1998, which would be about 9 or 10 months later. And that’s really when things hit the bottom in Indonesia, at least. I’d have to go back and look at the specific markets to look at other places. I tend to look at Indonesia because that’s something I’ve been following off and on– well, on for three or four years when I first started my career, then I’ve been following it ever since because it’s good to see how that’s been developing over time. That took a while, because you had both an economic input as well as Suharto, who had been in power for, I think, twenty-something odd years at that point. He was down-falled, too. So you had both a big change in government, a lot of chaos on the political side, as well as a lot of chaos on the economic side.

LADISLAS MAURICE: Which is typical in emerging markets when they go through a crisis, it’s often both financial and political.

MICHAEL MCGAUGHY: That’s right. Yeah, and happens very often.

LADISLAS MAURICE: I think let’s go into all of these markets that you’re currently invested in, and let’s dig into them. The first one is Uzbekistan. We’re not going to talk about Uzbekistan in this video, because I’ve already done a lot of content on Uzbekistan recently. There’s a link below on a video that I did with a fund manager in Uzbekistan. But essentially, I understand why your biggest position is in Uzbekistan. I’m also invested in Uzbekistan. All the indicators are green. There are a lot of natural resources, the population is growing. There’s a strong industrial base as well, the country is very competitive. The country is receiving a lot of foreign investment from the Chinese, the Russians, the Gulf Arabs, the Indians, from essentially everyone, Westerners as well. And they’ve removed capital controls, and just so many business-friendly reforms are happening that, yes, it makes sense to be long Uzbekistan.

Investing in Argentine Equities

LADISLAS MAURICE: Let’s move on to the second one. Let’s discuss Argentina, so 17% of your fund is invested in Argentine equities. Argentina is this country that is always supposed to come out of the crisis but that never really seems to quite get out of the crisis. What’s your overall thesis for investing there?

MICHAEL MCGAUGHY: The investment thesis for Argentina is pretty similar to a lot of the markets that we’re invested in. You’ve had a big decrease in foreign exchange, or the foreign exchange rate, the stock prices went down. And a lot of this was due to the unexpected election of the current president, Alberto Fernandez in I think that was in September, or no, the pre-election was in August 2019. And basically, what happened, what really got me on the plane was when I was looking at the MERVAL Index, which is the headline index in gold terms. In gold terms, it was almost a perfect, I think it was double or triple bottom that went back to 2002.

So that really got me interested because it seemed like Argentina just had a crisis, I think, 18 months or two or three years before that, that I thought about going to but it didn’t seem to be as bad a crisis as I thought, I normally look for, and evaluations weren’t really at the level that I like to be at. So between Argentina’s MERVAL Index going back to the same level in gold terms as it was 18 years previously, or 17 years previously, at that point, the CAPE ratio for the market, cyclically adjusted PE or 10-year average inflation adjusted PE for the market went down to, I think it was three or four times, which is kind of rock bottom, where that’s kind of where Indonesia was during 1989 1999. That’s what really got me interested in the market.

And the reason I pulled the trigger on it is the first couple of meetings when I went down there, people were saying that things are bad, but that they weren’t as bad as they were in 2002. So the market was at a similar valuation, at a similar level in terms of the prices or the gold adjusted weighted price of the MERVAL Index, but the situation did not seem as bad as it was back then. Also, the new president, Alberto Fernandez, the feedback I got was that he’s not a radical, he is more centrist than probably left to center, but more centrist than the more radical leftist faction in Argentina. And so that combined with a lot of the businesspeople weren’t that negative on what was happening with the situation, it looked like something interesting. And again, the valuations and all the technical factors looked very good.

But more importantly than that, is that the companies are very good. I was able to find six companies that I feel very comfortable with, half have ADRs that are listed in New York, New York, half did not, so we do have exposure in the local currency. Otherwise, we have exposure, ultimately, it’s always going to be the local currency because that’s where your earnings are based, but it’s kind of we have more liquidity with the ADR than we do with the local shares.

LADISLAS MAURICE: Sure. And I think you raise an important point about markets such as Argentina. I mean, the good thing about investing in markets such as Argentina is that, in times of turmoil, their businesses know how to navigate inflation, and crisis, and nonsense. They’ve been doing this for the last 20 years.


LADISLAS MAURICE: Their managers are completely skilled in navigating such environments. I remember it myself, when I was transferred by Nestlé from South Africa to Ghana. I landed right in the middle of a currency crisis with massive inflation, devaluation, etc. It was hard. But it’s a skill that you learn, if people are of the opinion that, you know, Western markets are going to crash, and we’re going to have stagflation or very high inflation for a long period of time, I’m not saying that’s going to happen, I’m just saying, if that’s your thesis, then markets like Argentina would be particularly interesting for such investors because they get to buy into businesses that are completely able to withstand all of these issues, and that have the management, that have the talent, and that have a history of doing so.

MICHAEL MCGAUGHY: That’s right, yeah. I mean, kind of getting ahead of myself, but thinking about your video on Turkey and Turkish real estate, it’s similar there to what’s happening in Argentina, where they’re constantly, you know, that’s just their mode of operation. And so they’re used to that. And in a way, not a perverse way, but in a way it kind of benefits existing businesses, because I was talking to a CEO, the other day, in Argentina, and nobody’s setting up a business to compete with it, and he has about 65% of the cell phone assembly business market in Argentina. They do assembly for Samsung and a few other brands, as well as other manufacturing. But you know, nobody’s coming into the market.

In fact, one reason that they have a big market share is that their biggest competitor left the market, they were the only guys that they could sell to. So they bought the company for $1 plus debt, which wasn’t that much. And they went from thirty-something market share to about 65% within a few months after the deal was completed and all the integration took place. And I see the same thing in other markets that I’m in, people just don’t want to go into Turkey, people don’t want to open up plants in Argentina. In fact, if anything, they’re exiting.

And for this one company I’m thinking of, in Argentina, Mirgor, in addition to their biggest competitor leaving and them taking over the business, they have cash on their balance sheet. So they’re looking to acquire more companies and complementary businesses. And they’re taking their time, there’s no need for them to rush into buying something. They’re basically one of the few buyers in the market right now.

LADISLAS MAURICE: So Argentina has a history of doing like this, like up and down in a radical way. When do you plan on exiting? What are some signs that you’ve earmarked that when you see them, you’ll seriously start considering selling?

MICHAEL MCGAUGHY: My investment thesis or strategy is based on three things, or stock picking is really based on three things, people, structure, and value. So I’m looking for companies that are managed by good people, or owned by good people, controlled by good people, where you have the structure aligns the management, or the controlling shareholders, majority shareholders with minority shareholders, so there’s a good alignment of interests, and you’re also trading at very good valuations. And that’s one reason I go into a crisis, because during a crisis, you can find good quality companies where you have a good alignment of interests, and are “by good”– what I think are good people, and you can find those very good quality companies at rock bottom prices, whereas, typically, those companies trade at a premium or very expensive prices. So that’s really what I’m looking for.

LADISLAS MAURICE: Because I mean, I understand buying them cheap, and then they become a bit expensive. But then, invariably, because I mean, Argentina goes from crisis to crisis, I don’t see this changing anytime soon, really. There’s going to be a next crisis, and that business you bought really cheap right now will go up in valuation and go up in value, but at some point in the future, it’ll be very cheap again. So you’ll want to sell.

MICHAEL MCGAUGHY: I’m sorry, I didn’t answer your question properly. I was explaining. I was telling you about my investment thesis which was going to lead up to my sell regimen. So I basically sell for the opposite reasons for why I invest. If I’m buying for good quality people, a good structure of alignment, and a good valuation, a lot of reason that I’ll sell is the opposite. So if there’s a big change in management or a big change in shareholders, and I don’t like the new shareholders, then I would sell. We recently got out of a company in Egypt because of this. In terms of the structure, if they start doing something where they’re injecting assets from the private family into the company, or there’s related party transactions that raise eyebrows, then I would start to sell or at least consider it.

And thirdly, and hopefully, this will be the reason that if it hits my valuation targets, then I would sell. And that’s the key reason. But if the company is still growing and performing well, then I’d say just take a hands off and let management and the owners do their stuff.

LADISLAS MAURICE: Argentina’s making a lot of negative headlines right now. They’ve had a crisis, their finance minister quit, and they’re discussing with the IMF, and they’re always one bailout away from, you know, problems. But what I do see happening is that they are starting to realize the importance of natural resources, and they are taking an approach that is very different from Chile’s, actually. Argentina is trying to, it would appear, increasingly align itself to the likes of China and Russia, and understands that one of its core competitive advantages is that it has all of this agricultural land, it has all of these minerals, it has oil, it has gas. And what we’re seeing is the government is putting in place a lot of reforms to encourage foreign investment into oil, and gas, and mining as well.

When I take a step back, because I invest in natural resources quite a bit, and I look at Argentina vs. Chile, theoretically, Chile is still one of the Tier 8 jurisdictions, but with what they’ve been up to and that latest president that they elected and the constitutional changes that they’re considering making, and when I see what Argentina is up to, I compare the two and I just can’t justify paying a premium for Chilean assets when I can pay a big discount for Argentine assets, even though it looks that actually Argentina will be friendlier towards foreign investors in the natural resources space. So I find this, personally, encouraging.

MICHAEL MCGAUGHY: Okay, that’s interesting. I can’t really comment on that, to be honest with you, because I don’t know much about Chile, I’ve just been focusing on Argentina. And this is kind of one thing I think people miss about the current government is that they’re not as radically left as a lot of the foreign press, or the press I read, make them out to be. We have, for instance, I just told you about Mirgor, the company that manufactures cell phones, one reason they’re doing it profitably in Argentina is because there’s a 15% import duty on cell phones. They just extended that for, I think, another 20 or 25 years, that law.

Secondly, like you said, they are encouraging the oil and gas industry. And that’s actually not very leftist at all right now in the current geopolitical, I guess, ESG is very, very front and center in a lot of investors’ or a lot of people’s minds these days, particularly in America and Europe. And like you said, they’re actually investing and encouraging more exploration. So, for instance, one of the firms that we invested in in Argentina is called Vista. And Argentina has, at the– what’s it called, they have the second largest shale oil gas deposits in the world in western Argentina, and the one company that we have– and they’re going to be building a pipeline between that area and Buenos Aires, at the cost of about 1billion that should be open, I think, in 18 months.

So that’s not something that a country that’s really radically leftist would be doing right now, at least in my opinion. I mean, if you look at the details, like you said, they are making some progress.

LADISLAS MAURICE: Yeah, that’s what I see. And then when you compare it with the US that needs oil, that needs all of that, and they don’t want to allow oil pipelines, we see Argentina doing exactly the opposite. And it doesn’t come at a premium and all these shares come at a massive discount. So that’s interesting. This new change in policy is, I feel, not priced in yet. It doesn’t mean that other things aren’t going to go wrong, Argentina is Argentina, but at least this is an interesting fundamental change.


Investing in Egyptian Equities

LADISLAS MAURICE: Cool. Let’s move on to Egypt. Your fund is 16% Egypt. Tell us about your investment thesis for Egypt.

MICHAEL MCGAUGHY: The reason I got invested in Egypt, this kind of actually predates the fund. In November 2016, they devalued their currency by 50%. It was actually one of my most interesting trips, because when I started, the currency was trading at about, I think, it was seven or eight Egyptian pounds to the US dollar. When I entered the ship, it was trading at 17, 18 Egyptian pounds to the US dollar. So my breakfast, at the beginning of the week, cost $26, at the end of the week at this expensive, overly priced hotel I stayed at it was about–

LADISLAS MAURICE: Yes, I was going to comment (laughing).

MICHAEL MCGAUGHY: Or, my McDonald’s meal, which I actually went to, McDonald’s breakfast went from $5 to $2.50 within the space of a day. And what was incredible about that, just going off on a tangent now, but I have four or five meetings a day with potential companies that I want to invest in on these trips. At the beginning of the week, or the beginning of the trip, people were, that’s all they talked about, was the exchange rate, worried, they were depressed. The attitudes of people I talked to flipped overnight as soon as that law was announced, it was like night and day. They didn’t have to worry about repercussions from dealing in the black market to get US dollars, what they needed for their plants, you know, I could do this, we can expand, it was just incredible, the change in attitude of the people I talked to. So simple things like that, which is just a stroke of a pen from the policymakers’ desk can have a very big impact.

Second reason I got invested in Egypt is because it’s just so cheap, it’s still only about five or six times the CAPE ratio, which we talked about before. And I was talking to an old boss of mine used to ran the first ex-South Africa Africa fund in the world for many, many years. He has a lot of experience in that market. And I was asking him about Egypt a little while ago, and he was saying the same thing, he just doesn’t understand why it’s so cheap. You have a lot of– they are reforming the economy. It’s not nearly as fast as Uzbekistan, but they’re doing it steadily. A big example of that is freeing oil and gas prices, reducing subsidies on electricity for the domestic population. There’s still a lot of subsidies, a lot of things that they could still keep doing, but things are being rolled back there, or subsidies are being rolled back there.

LADISLAS MAURICE: Yeah. Because you’re right, that’s what I see with Egypt. The reforms they’re doing are– I mean, no one in the West is talking about the reforms that are happening in Egypt.


LADISLAS MAURICE: It’s they’re actually quite mind-boggling. My only question is whether they’re doing them, like you mentioned, fast enough. Because they do have a lot of fundamental problems, they have 100 million people. It’s growing fast, so the economy really, really needs to grow fast to be able to feed all of these mouths. But you’re right, Egypt used to be this country of absolutely no reforms, of just stuffy Arab bureaucracy. And there’s still a lot of that bureaucracy, for sure, but at least it seems to be moving in the right direction. So as you said, in terms of energy, which is huge, when you’re a country of 100 million people, energy imports can absolutely kill your current account balance. And Egypt has been working extremely hard to try to fix this.

So they’re now essentially net gas exporters. Most of their electricity is based on gas. They’re making changes, they’re even looking at, you know, buses, instead of running on oil would run on gas, etc. So they’re trying to use their own natural resources to power their economy. And they’ve recently signed substantial deals with Israel and with Europe as well to export a lot of gas to Europe. And they’re expanding exploration, they’re giving a lot of credits. And they reformed the whole mining code in 2020. So I follow the mining space, and I’m now seeing they’re giving out a bunch of licenses for companies to go out deep in the middle of nowhere in Egypt where there’s nothing but sand. And there are now companies that are there employing locals, creating jobs, and hopefully, they’ll find gold and whatever else. And there’s a lot, Egypt is massive. That’s really impressive.

And, at the same time, as they’re cutting deals with the Europeans for gas, they’re also cutting deals with the Russians. We’re seeing it with nuclear. So they’ve just signed a big contract with Rosatom, the Russian nuclear energy company. And they’re going to be building some nuclear power plants in Egypt. As I said, they’re cutting deals with Israel, the historical enemy next door. So they’re managing to try to get along with everyone except Ethiopia down south with the whole issues with the dam and all that, but that’s a different topic. But that’s actually tail risk. And then we saw also with the whole food crisis, because Egypt, so two of the biggest issues, so you mentioned the subsidies that they give in terms of oil. So they’re gradually reducing these subsidies, which is extremely tough on the people, because they’re having to pay more and more for oil, not just because the price of oil is going up, but also because of reduced subsidies. So it’s a double whammy in many ways.

And then bread is hugely subsidized in Egypt. It’s essentially what buys the peace in the country. So when the price of wheat absolutely shot up, and Egypt used to buy a lot of wheat from Ukraine, this was an absolute threat to peace in Egypt. And they were quick to sign a deal with Russia as well. So they’re managing to balance all sides. They’re keeping friendly relations with the West, with Russia. China is also increasingly involved in Egypt, they’re building the new capital of Egypt, the new administrative capital, which is like 20, 30 kilometers east of Cairo, massive new city that they’re building that’s going to be housing as many people’s as Madrid. I went there myself two years ago, it’s a huge project. It’s really impressive. It’s happening. And it’s not like in the Gulf where it’s being built by foreign labor, all the workers there are Egyptian. So there’s a very interesting, I’ll call it, narrative for Egypt. Yeah.

Again, the risk is always how fast will the reforms have an impact before some sort of external shock hurts the country. because the country is quite indebted. Recently, it devalued again, like, what, two weeks ago, I think, 16%.

MICHAEL MCGAUGHY: Yeah. A lot that, sorry to interrupt you, but a lot of that was pent up. So they kept the EGP steady at between 15, 16 for, I think, four or five years after the big devaluation. And I think under the IMF’s encouragement, they’re trying to, you know, IMF is encouraging them to free that up more.

LADISLAS MAURICE: And that’s not healthy, that they’re doing this from a currency point of view, that they’re trying to manage it that strictly.

MICHAEL MCGAUGHY: That’s right, yeah.

LADISLAS MAURICE: But again, from a real estate point of view, I’ll go on a little tangent here, when I was there two years ago, I did a video and it was possible to buy real estate as a foreigner in–

MICHAEL MCGAUGHY: I’ve seen that video, yeah.

LADISLAS MAURICE: Egyptian pounds and paying over a 10-year period through developer finance. So that was a very interesting way of shorting the Egyptian pound.


sorry to interrupt you but those are the kinds of policies or situations you see at the bottom of the market. You know, just reading a little bit about US history after the crash in 1918, the US did the same thing, mostly geared for Europeans to buy American property where they gave you rights in terms of, I don’t know if it was actual citizenship, but residency and things like that. And that happens all over. And typically, those things happen soon after a crisis, particularly, you know, it’s a cycle, you know, lending, interest rates go way down, things get overbuilt, prices go way up, more things get built, people speculate on property, and at some point, it crashes, there’s nobody to buy it, people who are well off or very well established and know the political people then forced with these policies, because, typically, the people who know the political people have a lot invested in the property developments. And it does employ a lot of people.

LADISLAS MAURICE: If I may ask for Egypt, again, when I look at the macro for Egypt, what I see is Egyptian consumers being squeezed. So what sort of companies are you, not asking for precise names, but what sort of companies are invested in, in terms of space and industry?

MICHAEL MCGAUGHY: Our biggest investment is GB Autos, Ghabbour Autos, which has a 24% market share in passenger cars and also has a big market share in commercial vehicles as well as tires and almost anything to do with autos they’re involved in. They’re the third largest auto distributor in Iraq and the second half of their business is non-bank financial institutions. So they do things like leasing, particularly car leasing initially. And then based on that being very successful 15 years ago, they got into things like factoring, microfinance, and a lot of other things. And that’s half their business, and that’s growing very fast. And so that company is now trading at I think it’s about three times PE and 12 times dividend yield. It’s a very, very cheap company, which I think is– I think and you have good alignment between the family and minority shareholders. The family doesn’t have much else besides– they have a few real estate projects, but nothing really substantial besides GB Autos, so they’re really concentrated on that. So you don’t have the risk for much what I call adverse related party transactions, at least in my opinion for that company.


MICHAEL MCGAUGHY: Our second biggest investment in Egypt is it’s actually a Canadian listed company called TransGlobe, and they’re oil and gas company, EMP, and they’ve been in Egypt for I think about 20 years now. They’re one of the oldest surviving oil and gas businesses there, quite well known and work well with the ministries in Egypt. And the reason we got invested in that is kind of going back to the people side, is about seven years ago, soon after Sisi came into power, the person who took over the Ministry of lands, I think it is, or the people who grant the licenses for the mining and the oil exploration, for the first time ever, the person who took that job had private sector experience.

Before, it was all state owned cronies and typical politicians or regulators. And since he came to power, he’s done exactly what you were talking about before, where he made the laws a lot more friendly for oil and gas companies, and gold companies, and mining companies to come in, and because that change in laws, they’re now able to introduce more advanced drilling techniques. So TransGlobe, the company we invested in, they started to bring in horizontal drilling techniques for the first time ever in Egypt, I want to say, six months ago now.

Investing in Turkish Equities

LADISLAS MAURICE: Okay, interesting. Cool, great. So let’s move on to Turkey, a market that I know quite well, myself. I spent a lot of time in Turkey, people who follow me know that I invested in real estate in Turkey. And your fund is 14% in Turkish equities. But what I see is that, in the past few years, real estate seems to have been a much better inflation hedge than Turkish equities. So what’s happening there?

MICHAEL MCGAUGHY: The reason we’re going into Turkey is very similar to the reason for going into other countries. In the summer of 2018, every month, every two months, I screen using my database, and I look for what are the cheapest and most expensive countries in the world, primarily the cheapest. And every now and then a country will just kind of appear out of nowhere, sometimes, on that screen, and that was Turkey in about, I want to say, June 2018. And then it literally looked like it was developing a crisis, the lira went down a lot, there’s a lot a lot of negative price press on it. This is kind of the lira crisis in a while, and the stocks went down, Lira went down. And again, it got kind of almost a double bottom in terms of looking at it in terms of gold to– the 100 index level.

So very similar to what we saw in Argentina. I had been to Turkey before, it was screaming, looked really interesting. So I went there, I think I was there by September, and found six companies that I really liked. And we’ve been invested more or less in those companies. I made a few changes here and there. We were more or less invested in those companies since then.

LADISLAS MAURICE: Yeah, because what I find interesting about Turkey is that it was headed towards deep issues. I mean, Turkey’s biggest problem is that it imports most of its energy, a lot of its food as well. And the prices of the two have really shot up so the current account, again, is a problem for Turkey. But they’ve managed this whole Ukraine-Russia crisis up to now very well. Historically, whenever there’s war somewhere around the Black Sea, at some point, there’s a high likelihood that Turkey gets involved. But up to now, I mean, we’re only six months in, they’ve managed to stay neutral, and to cut deals for cheap grain, and to sell weapons to the Ukrainians. And then with the Russians, they’re cutting deals on cheap oil and also some cheap food.

They’re using their newfound power to negotiate deals with what they’re up to in Syria. So they’re really trying to get the best out of everyone. So obviously, a lot of people are getting angry at Turkey in the process. But for now, it seems to be doing quite well. Also, there’s a massive influx in terms of tourism, especially Russian tourism, because they don’t really have much elsewhere to go these days. So the coast is packed with Russian tourists. Turkey has also signed deals with Russia to replace a lot of the Western businesses that quit Russia. So now it’s going to be Turkish brands that are going to go in there. They’re cutting deals as well to start using Russian Mir card in Turkey, so it’s the Russian equivalent of Visa and MasterCard.

And at the same time, the West understands that they can’t let Turkey go completely to the other side, so they’re always trying to sweeten the deal for Turkey as well. So Turkey is in this very interesting position. It seems to be helping the country but I mean, devaluation is a constant reality of Turkey. So I think my question to you would be, when I look at Turkey, I see two Turkeys. I see a local Turkey that suffers, like the normal everyday Turk dealing with 79% inflation is absolutely brutal. And I saw some statistics in terms of feelings of anger that people experience on a daily basis, and Turkey was one of the top three in the world in terms of people that feel anger on a daily basis. So it’s hard, you know, I mean, when I’m spending a month there, you tend to lose reality of what things actually cost.

You go to the shop, there are no more prices anymore, you just pay and you just, you know, give whatever it is you’re buying, and they tell you the price and you hope they’re not screwing you over. So really hard. And then there’s the other Turkey, which is the Turkey of exporters and foreign currency earners, the industrial Turkey that exports to all over Europe, all these factories, because that’s one thing that people fail to understand. Turkey is very industrialized. You go to these cities in the middle of nowhere, there are massive industrial parks, typically European companies or Turkish companies that European companies outsource to, massive parks with brand new factories, everything is super modern. It’s essentially all the factories that you don’t see any more in France and in Belgium, they’re now all either in Eastern Europe or in Turkey.

So that whole side of the economy is doing very well. And it translates into real estate prices. And you see it, like real estate that’s located in like normal Turkish areas hasn’t been doing very well, but real estate that is in wealthier areas where that attracts foreigners has been going up in USD terms, because it’s a completely different market, it’s different people. And so my question to you is the companies that you bought in Turkey, do they have a skew towards exports or not? If not, what kind of industries are they in? And what is your thesis as to why these companies should continue to perform well in such a tough macro environment?

MICHAEL MCGAUGHY: The reason we got into Turkey was the same reason we got into other countries, it crashed, the technicals looked good. And a lot of times, during a crash, all the negatives are already in the prices. And what makes Turkey really interesting is that it’s right in the center of Europe, you know, it’s very much of a trading nation, it’s surrounded by all sides by different countries. Inherently, it’s going to be– it has free oil prices, so there’s no subsidies on oil, which like you, I think you mentioned that’s one of their biggest imports. So essentially, the economy is going to have to readjust toward the US dollar no matter what currency they use locally, local prices, because you know, if you’re importing apples, or oil, or any other good, then other parts of the economy will probably adjust to the US dollar eventually. And that’s something that I’ve seen in Argentina before.

So the currency I don’t specifically, when I invest, look for companies that are particularly making US dollars or doing anything like that, just because I think, over time, things will adjust. And if you’re a long-term investor, a lot of times, in my back tests, I noticed that currency wasn’t the biggest factor as a lot of people think it is. And in fact, if anything, in my process and my strategy, I’m taking advantages of that currency dislocation, of that devaluation. That’s really why I went to Turkey in the first place. Now having said that, it’s given me a lot of sleepless nights because of all the depreciation that you’ve had. When I first went to Turkey was about, I think, 5 to 6 Turkish Lira to the US dollar. Now we just turned 18. Luckily or, you know, knock on wood, we’ve done okay with our holdings there.

So to give an example of that, one of the holdings that we have is Arçelik. Typically, 50% of the business is exporting and producing goods in other countries for sale in that country and 50% of their business is within Turkey. Arçelik makes white goods like air conditioners, and refrigerators, and things. And increasingly, their business is outside of Turkey. So they just bought a company in Bangladesh to manufacture white goods there, the same in Pakistan. So they’re very, very international. They’ve been getting awards because they’re developing technology to make the cleaning process for clothes and dishes more green. So they are inherently an international company but at the same time, you can say the Pakistan rupee is way down, the Bangladesh, currency is not doing well, either.

But on the flip side of that, that’s really all the growth is. If you look at the population growth, I think things will get better eventually in all those countries. And they’re certainly they’re still growing. You made a really interesting point about the connection with Russia. So to give an example of this, Arçelik is a good example. They’re first in line to buy Whirlpool’s assets in Russia. So Whirlpool’s exiting Russia, like a lot of Western brands are, and they announced, I think they’re going to take $100 million write-down on that. So I’m assuming that if Arçelik, which is a natural buyer for it, Turks have very good experience and have a good reputation from what I can tell in Russia, and a lot of experience there, if they do get the deal, I suspect it’s going to be at a pretty good price.

The same thing happened with the brewery that we’re invested in, FS Brewery, half of their business was in Russia through a joint venture they had with Ambev. Ambev is the producer of Budweiser beer, which was, I think, the second largest brand in Russia before Ambev pulled out. So they still sell FS beer there. And with Ambev pulling out, with Heineken and the Dutch Carlsberg pulling out, there are no foreign breweries left, except for Turkish FS in Russia right now. And so FS is first in line to take over Ambev’s businesses and plants in Russia. And Ambev announced I think, a $1.1 billion write-down that they either took or they’re going to take on their Russian businesses. So again, it sounds like the Turkish company, the FS Brewery, might get those assets at a pretty cheap price.

LADISLAS MAURICE: I mean, it’s pretty typical of the sanctions. What they’ve done is it’s been a net wealth transfer from the West to developing countries, essentially, I mean, actually, most of the world, apart from the West in general, is still doing business with Russia, and they’re scooping up all these stranded assets for cents on the dollar. So, I mean, yeah, sure, I see why Arçelik would be happy to be investing there. And it’s something that Westerners have a misconception, they think Turkey, they just think of their local kebab shop. Turkey is an industrial powerhouse in many regards in the developing world. You say, Arçelik, a Westerner will laugh and ask you what kind of crappy brand is this. But Arçelik in Turkey is very well respected. Arçelik in Africa is well respected. And wherever they go, people are happy to be buying Turkish brands, because the quality to price ratio is very, very interesting. And Turkish businessmen are very skilled at operating in ambiguous environments in Africa, and the Middle East, and Central Asia, and they’re making very good progress.

MICHAEL MCGAUGHY: Yeah. I mean, I think you hit the nail on the head right there. I forgot to say a key reason for investing in Turkey is you’re kind of getting emerging market bottom of the pile generational low valuations and prices on equities but with, what I consider, like top class international management. I mean, these guys all went to Western universities, primarily, the local universities are just fantastic. Some of the local analysts on the stockbrokers’ side that I talk to, I’d rank them anywhere against the Goldman Sachs or maybe even better because they’re independent and they have independent views. They don’t have a big bank. Some of the guys that I met who work for the independent brokers they are independent analysts, just really, really bright turned-on guys. So I’m very impressed with the people there.

It didn’t seem like an emerging market or a frontier market by any means, at least talking to the people I did. But in a way that also brings up a flip side. One, because I’m dealing with a lot of the, typically, the people who go into broking, and finance, and fund management tend to be high achievers in general, you know, top of their class, study business, pretty go-getters. A lot of times, I feel like I’m getting a skewed or view on that country. So that’s one reason I like to go to the country. And I probably should stay longer to do more about what you do, so your insight on just paying what everybody says you should pay and not having prices there because we’re changing so much, that’s very helpful. Yeah.

LADISLAS MAURICE: I think that over the next, I agree with you, over the next decades, Turkish conglomerates and industrial groups will become a lot more well-known because they are making progress from the West. We don’t see it, but it is happening. And it’s happening relatively fast, too.

MICHAEL MCGAUGHY: Yeah. I think it’s a classic, where, you know, everybody’s reading the headline– whatever you read about Turkey, typically, in America or Europe, I imagine, I don’t know much about Europe, but what I read in the American press is pretty negative actually, is very much on the macro side, really bad central bank policies. But people don’t look at the companies. And that’s really why I’m investing in companies, really. It’d be nice to have a better macro environment, and I think that’ll happen at some point, but the companies are very, very impressive. And kind of what you alluded to before, is that managements sort of have been battle tested. They’re battle tested almost every other year in Turkey because of the chaotic government policies and the bureaucracy.

LADISLAS MAURICE: Yeah, because I see two outcomes for Turkey, either, we’re going to see the currency go down suddenly a lot, and we’re going to see massive issues in the country, or, possibly, they’ll just muddle through and come out much stronger on the other side. It wouldn’t be the first time that Turkey is able to just muddle through and come up with random tricks and just manage to get through and come out a lot stronger. So which scenario it’ll be, I don’t know. But in Westerners’ mind, there’s only one scenario when it’s very negative. I disagree. I understand that that scenario is very possible, but don’t underestimate Turkey. People should not underestimate Turkey and the Turks, they very well could get through all this.

MICHAEL MCGAUGHY: Yeah. But take the flip side of that, one thing about the chaotic government and the bad policies is that the stock market, a lot of times, reflects that very violently, and that gives you another opportunity to get inside. So I think I wrote in a couple of newsletters ago that the current government, because of their interest rate policies, the central bank, now, under Erdoğan, believes that if you lower interest rates, inflation will decrease. So that’s really very, very radical. I won’t go too far down the rabbit hole in that but basically, a lot of times the stock market doesn’t like that view and the currency rates and stocks free rate pretty violently there.

LADISLAS MAURICE: On the other hand, that same government has been doing a lot of reforms over the past 10 years. I mean, let’s not forget when Turkey was run by generals, it was nothing.


LADISLAS MAURICE: Literally, it was nothing, it was just a puppet of the West and it remained poor. A new government came through, a lot of reforms happened. With reforms, inevitably, comes some element of turmoil. But there’s a clear vision for the country. Now, whether that vision for Turkey is good for the West or not is a completely different conversation. But the country has a very strong idea of self and a clear direction, and they’ve been working on it for over a decade now. Again, we see it in terms of the energy policy of the country, they have been building– they’ve positioned themselves as a transit hub for gas in terms of pipelines with the Iranians, the Azerbaijanis, the Russians, everyone. Everyone is using Turkey as a hub.

When you’re heavily dependent on energy because you can’t produce any of it yourself, but you’re a massive transit point for energy, that’s very, very helpful. And you don’t just wake up one day and find yourself in this position. This is a strategy that gets developed over time, and we’re starting to see the fruits of it. So again, is it fast enough? I don’t know. We’ll have to see. But I do understand, absolutely, the long-term thesis for Turkey for sure. Great. So now let’s discuss Nigeria. So you have 7½% of the fund in Nigeria. So I have to say that is quite a lot in the sense that you can’t really get your money out. Which isn’t really the case with the other countries. Egypt, you can get your money out. It takes a while. There’s a bit of a forex queue but you can get your money out. Turkey, for now, you can get your money out. Uzbekistan, not an issue at all. I’ve done it myself in the past. Argentina, you can get money out as well. If you buy Argentinian equities, it’s not a problem for a foreign investor, cool. Nigeria is a problem, though.

MICHAEL MCGAUGHY: Sorry, just on Argentina, there’s– we go through the blue chip swap structure in Argentina, not through the official rate. And so the blue chip swap structure was declared legal by the Argentine Supreme Court, I think, about 18 years ago, maybe 15 years ago.

LADISLAS MAURICE: Can you give a three-sentence explanation on the blue chip swap?

MICHAEL MCGAUGHY: It’s used in many places, including places like Nigeria, and it’s where you take an asset that’s traded in a financial hub, like New York or London, and it’s the same asset is traded in the local market, and you can buy it in one market transfer, essentially, and sell it in the other market as a way to transfer the money back and forth between the two countries.

Investing in Nigerian Equities

MICHAEL MCGAUGHY: It’s used in many places, including places like Nigeria, and it’s where you take an asset that’s traded in a financial hub, like New York or London, and it’s the same asset is traded in the local market, and you can buy it in one market transfer, essentially, and sell it in the other market as a way to transfer the money back and forth between the two countries.

LADISLAS MAURICE: Okay. Cool. So can you give us your thesis for Nigeria, because I understand over 200 million people, I mean, people don’t realize how massive, I mean, in terms of population, Nigeria is. Two hundred million people that are pretty entrepreneurial. Nigerians are known all over Africa for their business skills. Not always in a very positive light, but that’s a different topic. But it’s a lot of dynamic people. It’s an ogre in West Africa, but it constantly has problems. There are constantly capital controls, they’re still very dependent on oil, but no one seems to want to invest that much in terms of oil, industry is quite limited. There are a lot of lot of issues. Whenever their money is a bit tight in the country, we see ethnic issues in different parts of the country. But then, again, you could say that if there’s some civil war happening in the northeast of the country, it’s immaterial in the sense that it’s poor, it’s far, it’s not like there’s much GDP there anyways, all the GDP is on the coast. So what’s your thesis for putting 7½% in Nigeria, because I find that to be a relatively high exposure to this market.

MICHAEL MCGAUGHY: Nigeria is, I went there in 2016, soon after I went to Egypt. And it’s the same situation where they had devalued the Naira for, I think, it was about 30% or 40%, in 2016. Cheapest market in the world on a CAIT basis, stocks have gone down a lot. They had a crisis in 2009. In addition to the global financial crisis, they had a big problem there. Most of it in terms of brokers taking dividends or not paying the full dividends to their clients. The market’s been cleaned up a lot since then. The head of the market is now, the Nigerian Stock Exchange, he’s ex-New York Stock Exchange and ex-London Stock Exchange. So that’s a good background to have but it’s mostly the companies are pretty well managed. A lot of them have good market shares in their business and they’re just really, really cheap. You have the tail winds of a very strong population growth. So Nigeria is frustrating on a couple of different levels.

Number one, I made a bad decision in terms of buying at the time I did, at least for the fund. I went there in, I think, the spring of 2016, soon after the currency first devalued or was set free. And then you had what they call a kind of the market went up based on that and some positive economic news. And that’s when I started the fund, and we got into the stocks. And then it’s kind of come down again to what I call like a double dip. So we’re finally making money there but it’s been five years of being in the red there. So in what I consider kind of the short term, it hasn’t been very a pleasant experience. But it’s very frustrating, because it still has some of the cheapest companies in the world, the economy’s not doing well, they’ve had a pretty big recession, they are very low growth rates with a high population growth, which means that per capita income has gone down. So that’s been frustrating, but the companies have cut off a lot of costs. The economy is starting to show signs of life and profits last year were up a lot for most of our holdings.

And now on the longer term side, it’s very frustrating because, like you said, there’s a lot of natural entrepreneurs in Nigeria, and with the government controlling so much and not instituting many reforms, they’re not bringing the infrastructure to get things in and out of the country, the electricity grid is just horrendously corrupt, or just mismanaged, I’m not really sure what it is, but it’s just people aren’t getting the energy they need. So there’s a lot of headwinds there, which is very frustrating because a lot of people want to get a lot of things done. Now, having said that, I was able to find six companies that I really believe in that are run by good people, where you have a good alignment of minority and majority shareholder interest and trading at very, very attractive valuations. And that’s why we basically invested.

So the longer term, I mean, it kind of reminds me of Indonesia when I first went there in 2009, the country, they had to wean themselves off of dependency on the oil and gas exports, because their supplies were running out. Nigeria has been doing that. I mean, that’s one thing that Buhari has done, the current president, has done in his eight years, is that he has, the share of non-oil and gas exports and non-oil and gas business has increased a lot in the last eight years, but a lot more could be done.

LADISLAS MAURICE: Is that just because the price of oil went down, so naturally, yeah, that it represented a bigger share of the economy, or is it because that part of the economy actually grew?

MICHAEL MCGAUGHY: Oh, both. Nigeria, before it started producing crude oil, or petrol, it was one of the largest growers of palm oil in the world. And that industry just kind of went to nothing, because everybody started to focus on crude oil, that’s where the money was. And now that’s coming back. In fact, one of the better performing stocks in Nigeria, in the last couple of years, is a palm oil plantation. We’re not in it. It’s good to see that come back. Now the biggest problem they have, and hope, knock on wood, this may be changed, is their currency restrictions. They have a lot of currency restrictions, like you said, and that’s not only hurting, keeping a lot of people like me from putting more money in, I’d love to put more money in Nigeria. The valuations are really bad– I mean, really, really low. And I think the companies are very good.

And there’s a lot that can be done. I’ve met a lot of people who want to do the right thing, both on the government side as well as the company side, but those people are just not in power right now, at least on the government side. The three candidates for next year’s election, they’re going to have elections in February next year, the new president, if everything goes according to plan, should take power in March. The three leading candidates, they all have private sector experience, they probably all do something, I think, just talking to a CEO of one of our holdings, yesterday, and he kind of agreed with me or I agreed with him thinking that something’s probably going to happen on the exchange rate front pretty soon. So it could just be less than a year away on that side.

Now having said that, there’s a lot of private businesses that are going into Nigeria. I think Zuckerberg has been there, Bill Gates, or some pretty high profile tech people have been there in the last year. There’s a lot of private investment, I think, going into Nigeria now. But there’s not much portfolio investment into their equities.

LADISLAS MAURICE: I mean, the macro backdrop is fairly positive for Nigeria with the price of oil being up and staying up. So hopefully, some of that money will trickle into the local economy and then help with the forex reserves and limit the amount of capital controls. That would be a huge catalyst.

MICHAEL MCGAUGHY: Yeah. Another thing is that the richest man in Africa, person right now in Africa, is Dangote, Aliko Dangote. He has a big cement– he made most of his money from cement. He owns cement plants in many countries in Africa, but he made his initial capital in Nigeria. He’s building a very big petrochemical complex in Nigeria. One thing Nigeria does is it still subsidizes its local oil prices. There have been moves to change that from the NNPC, the Nigerian National Petroleum Company. And once Dangote’s petrochemical plant is open, that could be a game changer, particularly if the pricing sticks to international rules. If you remove the, I think, it’s $2 billion or $3 billion a year that they subsidize local oil, that goes a long way in Nigeria. And if the government can save that and put some of that money toward education or infrastructure development.

LADISLAS MAURICE: Electricity (laughing).

MICHAEL MCGAUGHY: Yeah, yeah. Electricity, yeah.

LADISLAS MAURICE: Electricity (laughing).

MICHAEL MCGAUGHY: Yes. So right now, Nigeria exports a lot of crude, but because they don’t have very good refineries or they don’t have enough refineries, they import a lot of refined oil, which is then subsidized.

LADISLAS MAURICE: I remember when I was benefiting from Nigerian subsidies when I was going on road trips to Benin. Benin is a little country west of Nigeria, a little Francophone country. And it’s a country with very few petrol stations because a lot of the petrol is essentially sold in glass bottles because it’s smuggled through Nigeria. So oil is a lot cheaper in Benin when you buy it from these like random sellers on the side of the road. But then, again, you’re never quite sure what it is you’re buying. If they feel you’re just kind of passing by, you might get the one bottle with like cut down oil, but if you’re a regular, you’ll probably get the right one. So you’ve got to navigate that quite well.

MICHAEL MCGAUGHY: Yeah, yeah. Again, they’re losing I don’t know how many billions of dollars a year to schemes like that. The same thing with the forex stuff. I mean, somebody must be making must be making a lot a lot of money. There’s good reasons that things like this don’t change.

LADISLAS MAURICE: Yeah. Cool. And then the rest of your fund. I mean, they’re tiny amounts, Pakistan, Sri Lanka. You and I will probably do a video on Sri Lanka because you went on an exploratory trip there recently. So in the coming weeks, or in the coming months, we’ll do a video on Sri Lanka because that’s interesting.


LADISLAS MAURICE: Everything crashed and you went there.


LADISLAS MAURICE: So that’ll be very insightful. I’m looking forward to that one. And then I saw your fund is currently 10% Cash, which seems to be quite a lot. Why that much cash?

MICHAEL MCGAUGHY: Oh, we had some more money coming in from existing investors a couple of months ago.

LADISLAS MAURICE: Fantastic. Michael, thank you very much for your time today, a real pleasure and I’m looking forward to our next conversation.

MICHAEL MCGAUGHY: Yeah, likewise, thank you very much for having me on the podcast. Good luck with all your investing.