Will Emerging Markets Ever Emerge?

In a world of aging demographics and slowing economic growth, developing countries were viewed by many market experts as the most recent place to find outsized growth. The question remains: Will emerging markets ever actually emerge?

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Will Emerging Markets Ever Emerge?

Will Emerging Markets Ever Emerge?

Perhaps the most crowded trade coming into 2019 was emerging markets. In a world of aging demographics and slowing economic growth, developing countries were viewed by many market experts as the most recent place to find outsized growth.

Here’s what one of the savviest money managers, Blackstone, had to say about emerging markets:

Emerging/Developing markets are estimated to comprise 63 percent of global GDP by 2022, supported by a much younger population and a more favorable working-age to non-working population ratio, making emerging markets (EM), in Blackstone’s view, a better place to put money versus non-U.S. developed markets.1

For advisors of a certain age, there is a familiar ring to this EM call. Remember those acronyms that were clarion calls to action: BRICs (Brazil, Russia, India and China); CIVETS (Colombia, Indonesia, Vietnam, Egypt, Turkey and South Africa); and MIST (Mexico, Indonesia, South Korea and Turkey)?

Turns out that long-term investors were disappointed.

Consider this analysis by Pensions & Investments. EM equity funds generally underperformed small cap U.S. funds over trailing five-year periods, with higher frequencies of negative returns. Moreover, they found that adding emerging markets to a diversified portfolio actually reduced the portfolio’s risk-return efficiency over the period January 2010 to June 2019.2

Resetting EM Expectations

Despite the optimism to begin the previous year, emerging markets have lagged developed markets for years, begging the question: “Will emerging markets ever emerge?” And, perhaps another, more important question: “Do emerging markets belong in my clients’ portfolios?”

The buy-and-hold investor takes on the higher risk of small cap U.S. stocks to participate in their potential for sustained, outsized growth. Indeed, the hope for every small cap company is that it grows to eventually become a mid cap company and then graduate to a large cap company.

Shouldn’t investors similarly expect that emerging economies follow the same path? Of course, there are examples of this occurring: Japan emerged into a developed country post-WW II and, more recently, China seems firmly on the path to developed nation status. But, the more common experience is that countries like Brazil, South Africa, Argentina and Russia are caught in a “Groundhog Day” cycle of promising expansion, followed by crushing economic disappointment.

The lesson here may be that EMs are not an investment at all, but simply an opportunistic trade. There is money to be made in EM, but it requires a skilled hand in country and security selection and adroitly timing the entrances and exits in order to avoid the pitfalls that have prevented most emerging markets from becoming sources of sustained investment performance.

Sources:

  1. https://www.blackstone.com/insights/article/joe-zidle-US-emerging-markets-demographic-market-trends
  2. https://www.pionline.com/interactive/graphic-emerging-markets-still-trying-emerge

Please reference disclosures: https://blog.americanportfolios.com/disclosures/

About The Author

Cliff Walsh, CFA

 

Chief Investment Officer 
631.439.4600 ext. 277 

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