Emerging-market (EM) equities have long suffered from a bad reputation among investors. However, after a challenging year in 2023, there are signs that a recovery could be on the horizon. In order for investors to regain confidence in these markets, it is important to challenge some common misconceptions about EM stocks.
One of the biggest misconceptions is that EM equities have consistently underperformed compared to US stocks. However, a closer look at the data reveals a different picture. Since the inception of the MSCI Emerging Markets Index 23 years ago, US and EM stocks have actually delivered similar annualized returns. In fact, since 2001, both the S&P 500 and the MSCI EM have posted annualized returns of around 7.6-7.8%, outperforming developed markets outside the US.
Although EM equities have struggled over the past decade, it is worth noting that they outperformed the S&P 500 by a wide margin in the first decade of the 21st century. Therefore, it is important to take a long-term perspective when evaluating the performance of EM stocks.
Despite the negative sentiment surrounding EM equities, there are encouraging trends that should not be overlooked. In 2023, US equity returns were driven primarily by a small group of mega-cap stocks benefiting from the artificial intelligence (AI) revolution. However, beyond these few stocks, the broader equity market did not perform as well. EM stocks were also weighed down by declines in China. However, when excluding China, EM stocks actually returned 20.1% in 2023, with some countries such as Poland, Greece, and Mexico posting strong performance.
Looking ahead, there are several trends that could create a more favorable environment for EM companies. Innovation, reshoring efforts by global manufacturers, and the global push for climate resilience are expected to drive growth in select EM countries and companies. In fact, EM earnings-per-share (EPS) growth is projected to be relatively strong over the next two years.
Earnings revisions also provide hope for EM equity investors. In the fourth quarter of 2023, consensus EPS growth estimates for the next 12 months were revised up by 5% for the MSCI EM, compared to 1.3% for the S&P 500. This indicates a potential turn in fundamentals that could lead to a shift in returns favoring EM equities.
While EM stocks may have more exposure to sectors that are vulnerable to macroeconomic swings, the EM benchmark includes a diverse range of stocks, offering opportunities for active managers to create well-balanced portfolios. Additionally, a significant portion of the MSCI EM weight is outside of China, and other regions in East Asia, such as India and Southeast Asia, have demonstrated strong innovation capabilities.
In conclusion, while apprehension towards EM equities is understandable, a deeper analysis of historical performance and future growth drivers reveals a hidden landscape of opportunity. It is important for investors to reconsider their assumptions about EM stocks and recognize the potential for a recovery and strong returns in these markets.
Disclaimer: The views expressed in this article are solely those of the author and do not represent the views of AB or its portfolio-management teams. Past performance and historical analysis do not guarantee future results. Investing in EM equities carries risks and investors should conduct thorough research before making investment decisions.
