Scherbaum's stock exchange: Are emerging countries finally taking off?

Anyone who invested in emerging markets last year had to make do with even greater losses in 2022 than investments in industrialized countries.

By the end of December, the MSCI Emerging Markets Index was down 20 percent for the year (in dollar terms), underperforming developed market equities.

According to market experts, this was due to “the usual factors” – a sharply slowing global economy, escalating political risks, China’s zero-COVID policy and, of course, the Federal Reserve’s fastest monetary tightening in more than three decades.

In the meantime, however, many experts are again increasingly seeing an investment in emerging markets as attractive.

Tilmann Galler, capital market strategist at JP Morgan Asset Management, shares this view.

From the economist's point of view, three catalysts are crucial for a more positive development of emerging market equities: a pause by the Fed, the actual end of zero Covid in China and easing political risks.

Three catalysts for emerging market equities

According to this, the macroeconomic baseline scenario from JP Morgan Asset Management assumes that the Fed will end the rate hike cycle in the first half of the year.

"Such a scenario favors cyclical stock segments such as technology and cyclical markets such as Korea and Taiwan, as stock markets are typically forward-looking, pricing in future economic recovery," Galler said.

The second factor is no less important: an end to zero Covid in China.

“The virtual end of the lockdown policy in December and further gradual easing should provide fuel for a strong recovery in Chinese demand once the wave of infections is over.

That would not only be advantageous for China, but also for all important trading partners in the region,” states Tilmann Galler.

EM government bonds only in hard currency

In addition to equities from the emerging countries, bonds from the emerging markets are again an important investment opportunity for many asset managers for 2023.

Cathy Hepworth, Emerging Markets Specialist at PGIM, is positive about developments in the fourth quarter of 2022: “It has been a volatile year in the emerging market debt markets with a respite in mid-summer and in the fourth quarter.

Emerging markets high yield government bonds performed reasonably well in the fourth quarter as investors anticipated bad news which did not materialize.

This momentum could continue in the first quarter of 2023.”

According to Hepworth, getting the mix right is likely to continue.

“Idiosyncratic and bottom-up factors will continue to drive returns and there are significant differences across countries, companies and currencies.

However, given the resilience of some issuers and currencies, we are more confident than we were for much of 2022.” Cathy Hepworth points in particular to hard-currency emerging market government bonds, from countries with sound fiscal positions and healthy balances of payments.

PGIM is currently positioned with a slight overweight in local emerging markets interest rates, but at the same time remains selective.

"We will become even more optimistic if China's economic situation clears up," Hepworth said.

Meanwhile, asset manager Erizon believes emerging market hard currency bonds are more volatile but overall more attractive than high yield bonds.

"They have high yields to maturity and wide spreads and could benefit from the likely end of the US interest rate hike and the stabilization of the dollar," reads the current investment outlook.

South Korea and Taiwan – are the favourites

Franklin Templeton's Jason Xavier, meanwhile, also sees areas of growth and opportunity in exchange-traded funds (ETFs) in select emerging markets this year.

The reasoning is the familiar one: “Emerging market equity valuations are currently cheap and continue to offer upside as the prospects of easing inflation point to a potential weakening of the dollar as the Fed changes course.”

However, according to Xavier, not all emerging markets offer the same upside potential.

A selection of countries that are considered "America-friendly" and can benefit from innovation-leading sectors such as technology and healthcare could pave the way, Xavier continued. look attractive to us.” Franklin Templeton therefore favors “South Korea, Taiwan and India over a broad allocation to emerging markets.”

South Korea and Taiwan could offer long-term opportunities thanks to optimism about chips and electric vehicles, as well as strong fundamentals, according to Franklin Templeton's Dina Ting.

Accordingly, both countries have clearly outperformed most of their comparison countries in the previous quarter.

"The optimism is further fueled by what we believe to be attractive valuations and the positive prospects for the chip and materials industry despite the current slump in demand," says Dina Ting.

In the fourth quarter, America's star investor Warren Buffett showed that there could definitely be bargains for investors in the region.

Its holding company, Berkshire Hathaway, made a new $5 billion stake in Taiwan Semiconductor Manufacturing Co. (TSMC) just weeks after the United States imposed new restrictions on sales of advanced semiconductors to China.