What characteristics make emerging markets an essential part of a diversified portfolio today?
Emerging markets (EM) countries account for over 50% of global GDP1 and are expected to contribute 65% of global economic growth by 2035.2 With over 80% of the world’s population residing in EM, this makes the asset class too large to ignore.3
EM equities offer exposure to a diverse group of dynamic markets benefiting from a range of structural growth themes. In particular, we identify growing domestic demand, supported by favourable demographics, a rising middle class, rapid urbanization, and accelerating technological and financial inclusion.
Meanwhile, EM countries have drastically transformed and learned the lessons of the past, with economic reforms and prudent monetary and fiscal policies leading to superior current account and fiscal positions relative to history and the developed world.
Emerging markets (EM) countries account for over 50% of global GDP and are expected to contribute 65% of global economic growth by 2035. With over 80% of the world’s population residing in EMs, this makes the asset class too large to ignore.
As a result, there has been a structural shift down in EM policy rates and, for the first time in history, full convergence with DM rates. This positions EM well in an era of monetary easing, given high real rates and contained inflation.
Looking ahead, what are the key themes for emerging markets?
In a world under transformation, economic and political power dynamics are shifting towards EM countries. Looking at the next decade, we believe a key theme will be EM’s economic decoupling from the developed world and the rise of intra-EM trade. This shift is already evident, with intra-EM trade surging to nearly 50% of total EM exports today, double the level of 2000.
As emerging economies continue to decouple from DM, this should lower sensitivity to the DM economic cycle and on U.S.-dollar funding requirements, reducing vulnerability to U.S. interest rates and currency strength. Meanwhile, the gradual shift away from the U.S. dollar in trade settlements, with EM increasingly using local or regional currencies, also supports the case for a weaker U.S. dollar going forward, a key positive driver of EM equities and currencies.
Moreover, emerging nations’ leadership in critical inputs from metals and minerals to agriculture and semiconductors positions them strongly in an era of decarbonization and technology transformation.
After years of underperformance, we believe we are at a turning point, and that last year’s outperformance of EM equities relative to DM can be sustained. The relative performance of EM/DM equities tends to occur in long cycles and the factors that have held EM back over the past cycle are turning into tailwinds. This includes improving relative earnings growth, superior fundamentals, accelerating government reforms, and a weakening U.S. dollar.
Importantly, after 15 years of relatively low EPS growth, EM is expected to deliver the strongest EPS growth of major regions at circa 20% in 2026. EM is expected to record double-digit EPS growth for a third consecutive year and to outpace EPS growth in both DM and U.S. equities for a second consecutive year.
What opportunities exist for outperformance in EM equities?
The EM equities universe is becoming more attractive, with increasingly diverse country exposure and less cyclical stocks. We are seeing growing exposure to areas of structural growth, including consumer, technology, and future infrastructure, with a much broader choice of high-quality franchises than has historically been the case. This is further being bolstered by structural reforms in a number of key markets, which is leading to increased shareholder focus and returns.
Despite this favourable outlook, EM equities continue to be under-valued and under-owned, trading at a historically wide discount to DM. Currently, EM countries account for only approximately 12% of the MSCI ACWI Index, with most investors still underweight.
From an investment standpoint, EM equities offer one of the most compelling opportunities for alpha generation, given market inefficiencies and the non-homogenous nature of the asset class.
Which countries do you see as the strongest short term opportunities over the next 12–24 months and why?
From a country standpoint, we observe a diverse opportunity set driven by structural reforms and political developments across a number of markets:
India
We view India as one of the most compelling long-term stories in EM. The country offers superior growth prospects given its attractive demographics and low penetration rates across many areas. India has the lowest urbanization rate in EM, but rapid growth is expected, from around 30% today to over 50% by 2050.
Meanwhile, from a bottom-up perspective, the quality of corporates really stands out with a higher proportion of compounders and superior Return on Equity compared to other EMs. Valuations are now less extreme after last year’s underperformance, with India trading below its long-term premium to EM, and the cyclical headwinds are also diminishing. Outside of these factors, a key headwind from a shorter-term perspective is the AI theme given India’s limited exposure, however should this unravel, India may be well positioned to outperform.
China
In terms of China, we believe the country has effectively navigated the trade war and strengthened its trade relationships with countries outside the U.S. Over the past five years, China’s trade surplus has more than doubled, and its exports have become more diversified and moved up the value chain. This is also testament to China’s focus on innovation which has secured it leadership across a number of key technologies, including EVs, drones, high speed rail, pharmaceuticals, and now also AI and robotics. We believe DeepSeek was an important moment which demonstrated China’s ability to innovate despite the United States’ restrictions. Following last year’s rally, valuations have recovered to long-term averages and earnings growth will need to improve in order to support another leg up.
Over the past five years, China’s trade surplus has more than doubled, and its exports have become more diversified and moved up the value chain.
Asia and the Middle East
We identify select opportunities across other Asian as well as Middle Eastern economies, driven by accelerating structural reforms and improving shareholder returns. South Korea stands out in terms of its reform momentum, with a wave of corporate government reforms passed since last year’s political developments. Further changes are underway, and we would expect this policy direction to continue. We do, however, think that it will be important to be selective when investing in South Korea, as it is likely that not all companies will fully embrace a more shareholder-friendly direction.
Latin America
Meanwhile, after a challenging political backdrop, the outlook for Latin America is attractive given the current election cycle which is driving a shift towards more market-friendly, centrist governments across the region. LatAm also stands out for its exceptionally high real rates, positive sensitivity to a weaker U.S. dollar, and attractive equity valuations despite the recent strength. Longer term, we also believe the region is a beneficiary of global supply chain shifts and strengthening commodities.
From a sector and style perspective, where are you finding the most compelling opportunities and stories right now?
In terms of sectors, Financials and Consumer Staples look particularly attractive currently, following a period of underperformance. Financials are trading at a historically wide discount to IT, while Consumer Staples are at their smallest ever premium. The sectors have been structural overweights in our portfolios, aligning with our long-term themes of Financialization and Domestic Consumption. Both sectors tend to perform well in a weaker U.S. dollar and falling interest rate environment, while from a bottom-up perspective we are able to find a disproportionately high number of quality compounders within those segments.
In terms of styles, last year’s rally was concentrated in a select number of areas. AI-related plays have been the standout winners, which has supported the performance of the Growth style. Certain Value areas, such as metals and mining, have also delivered strong gains in the MSCI EM Index. Conversely, Quality stocks and sectors have been out of favour, creating attractive valuation opportunities within this segment of the market.