Emerging markets are in and out of fashion

Over the past few years, emerging markets’ popularity has varied. The International Monetary Fund has forecast that 2015 will be the fifth successive year in which economic growth in emerging markets has slowed [1].

The emerging markets’ advantage over rich countries, in terms of a faster growth rate, will be the smallest this year since 2001, according to IMF forecasts [1].

It seems the causal problem is emerging-market growth being accompanied by a build-up of corporate debt. Excluding financials, companies have an average debt level of 90% of Gross Domestic Product, according to HSBC [1].

Corporate profits have not been growing as quickly as many investors had hoped. John-Paul Smith of Ecstrat, which specialises in advisory between global equity markets, worries that a vicious circle is starting to develop “whereby poor governance and policymaking, currency depreciation and downward pressure on living standards are beginning to behave in a reflexive manner” [1].

Sluggish economic growth will give the incentive for Governments to intervene with the economy, imposing higher taxes or price controls. Governments may also deflect their criticism by blaming foreign speculators or companies for their problems.

Capital Economics estimates that more than $260 billion has flowed out of emerging markets in the third quarter of the year. Comparatively, this is even greater than the outflow during the 2008/2009 crisis [1].

When financial assets have been under performing, contrarians naturally start to wonder whether it is a good time to make the most of it, as emerging markets usually trade at a lower valuation than their rich-world counterparts.

The recent variance of global markets highlight the continued importance of diversification in investors’ portfolios across equities, bonds, real estate and alternatives.

[1]. The Economist. ‘Among investors, emerging markets are out of fashion’.