It’s hard to miss the volume of chatter about emerging markets (EM) these days. Amid a potential EM resurgence, we examine the drivers of improved sentiment—and multiple entryways for investors who may want to participate.
After a volatile 2015, many investors seem to be returning to emerging markets (EM). Flows back into iShares EM exchange traded funds (ETFs) have been swift and dramatic in the past month—nearly $8 billion in net flows as of March 23—and encompass broad-based EM and single country stocks as well as fixed income.
Emerging markets historically have been an important source of long-term growth potential and diversification, yet years of weak performance and volatility have left EM potentially underrepresented in many investor portfolios.
Time to get back in?
For investors wondering how to interpret the activity around emerging markets, we examine four major factors driving the recent rally—and the markets we believe are most likely to be impacted by each.
U.S. Dollar weakness
The Federal Reserve’s dovish stance on interest rates has taken some air out of the U.S. dollar relative to other currencies. For countries with large current account deficits, a weakening dollar can provide relief both in the cost of financing and in trade. We see this potentially benefiting Brazil, Indonesia, Turkey, South Africa and India.
Oil prices have recently stabilized, helping to boost commodity prices to their highest levels since December 2015, along with prospects for countries reliant on commodity exports. Commodity exporters, such as Russia, South Africa, Mexico, Chile and Malaysia could be worth exploring as a result.
In several markets, investors are closely watching for political regime changes that may drive new economic policies. Among them are Brazil, where increased momentum to impeach President Rousseff and indict former President Lula da Silva is reassuring markets that a resolution may be near; and Peru and Philippines, where upcoming elections may result in regime change and economic policy shifts.
Emerging markets stocks have seen declines in relative valuations over the last year, and are well below historical norms. Investors looking to increase their broad EM allocations could consider a broad stock fund or a broad stock minimum volatility fund.
And among EM economies, valuations in Taiwan, Russia and China are each significantly well below their historical averages.
More ways to access
As the world’s economies become increasingly complex and intertwined, we believe investors should no longer think of “emerging markets” as a single, monolithic allocation, but as multiple global gateways opening onto distinct and varied markets.
This is a guest post from Tushar Yadava, who is an investment strategist for U.S. iShares.
1Percentile ranks show valuations of assets versus their historical ranges. Example: If an asset is in the 75th percentile, this means it trades at a valuation equal to or greater than 75% of its history. Valuation percentiles are based on an aggregation of standard valuation measures versus their long-term history. Government bonds are 10-year benchmark issues. Credit series are based on Barclays indexes and the spread over government bonds. Treasury Inflation Protected Securities (TIPS) are represented by nominal U.S. 10-year Treasuries minus inflation expectations. Equity valuations are based on MSCI indexes and are an average of percentile ranks versus available history of earnings yield, trend real earnings, dividend yield, price to book, price to cash flow and 12-month forward earnings yield. Historical ranges extend back anywhere from 1969 (developed equities) to 2004 (EM$ debt). The percentile bars show valuations of assets as of 29 Feb 2016, versus their historical ranges. The dark blue bars show where valuations were a year ago.
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