Are emerging markets ready to rally?

Are things finally looking up for emerging markets (EMs)? The asset class, which ranges from South African miners to Korean technology champions, has had a difficult run.

The MSCI EM index has lost 5% a year in dollar terms since 2021, while stocks in developed markets returned 6.8% annually over the same period. Higher interest rates in the US and Europe have pulled capital back from the global periphery. Why risk money in exotic stock markets when you can get 4.3% on US Treasury bonds?

Emerging markets remain strong

A prolonged sell-off in Chinese shares has dragged emerging markets lower, as “almost 30% of revenue” for EM companies stems from the Middle Kingdom, says Jacob Sonenshine in Barron’s . But the central bank has stepped up measures to support GDP , which looks poised to grow at healthy mid-single-digit figures “for the next few years”.

For all their promise, emerging markets “have a 'why EMs are ready to rally. Has the uranium market peaked?' horrid tendency to disappoint,” says Louise Lucas in the Financial Times . Over the past decade, “bad years globally” have been “extra bad in the developing world”, while the good years have been “less good” in EMs. The strong dollar has hurt performance – calculations by the International Monetary Fund (IMF) show that “dollar appreciation of 10% decreases EM economic output by 1.9% after one year”.

Still, EMs have undoubted strengths. The artificial intelligence (AI) frenzy is boosting East Asian chipmakers. Combined, the trio of Taiwan’s TSMC and South Korea’s Samsung and SK Hynix account for 14% of the MSCI EM index . Emerging economies offer exposure to the “nascent commodities boom” in green metals, adds Tom Stevenson in The Telegraph . That’s not to mention the “long-term structural case”. Within “a few years” about “two-thirds” of the world’s middle class is expected to be living in emerging economies.

The developing world “accounts for 80% of economic growth but only 11% of the value of global stock markets”. As always, the real challenge is distinguishing EM winners from future flops. “We won’t invest in any country where we think there is some kind of existential risk to our capital through capital controls, big currency depreciation or appropriation of assets,” Dominic Bokor-Ingram of Fiera Capital tells Miles Costello for Citywire . He likes “Saudi Arabia, Vietnam, Kazakhstan and Greece”, countries “actively pursuing reforms under dynamic political leadership”.

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