According to Goldman Sach economists, the income convergence between developed countries and emerging countries have narrowed over the last 10 to 15 years, suggesting that at the current pace, the proportion of global incomes could tilt in favor of middle income economies in emerging markets (EM).
Related Articles
Assuming a positive correlation between GDP per capita and equity market capitalization: with the trend of increasing income levels, the size of emerging market equities could eventually overtake the United States within a few years.
According to Goldman researchers, increasing valuation multiples, growing capital market depth and the equitization of corporate assets will drive emerging markets.
This has major implications for investors as by 2050 - India, Indonesia, China, Germany and the US will make up the five biggest economies in the world with India increasing market share within the EM region while China’s market share declines.
EM performance has lagged this year
Europe, Energy and Information Technology companies have led returns this year on the back of rising AI-optimism, higher commodity prices and discount buying in Europe.
Market perception that the Fed would keep interest rates higher than longer weighed on EM returns. But we have maintained that softer US economic data would lead to surprise rate cuts from the Federal Reserve towards the second half of this year (see Why Interest Rates will fall).
A lot of bad news has already been baked in EM assets
Over the last two years, investors have been pulling money out from emerging markets. Fed rate hikes, and with Donald Trump potentially becoming the next President, the US could step up trade tensions with China, and weaken transatlantic ties, while imposing more tariffs on foreign exports. These trade restrictions would disrupt and change existing global supply chain orientations, forcing more companies to move their operations out of China. EM debt witnessed outflows in 2022 and 2023, but the pace of selling has slowed this year.
There are reasons for optimism
Lazard Asset Management has kept a constructive outlook on EM. Projected earnings growth exceeds developed markets in 2024 and 2025. In addition, the asset class can give investors diversification benefit from US equities. Thirdly, it is an under-owned asset class with less than 7% of global investors investing in EM markets. With dyssynchronous growth across the region, in our opinion, the more convincing and less risky way to bet on a China rebound is through emerging market funds.
Introducing the MSCI Emerging Market ETF
Our model is suggesting to invest in emerging markets and we have initiated a position in the iShares MSCI Emerging Markets ETF (NYSE:EEM).
Here are some key facts about the exchange traded fund:
It has USD18 billion of net assets, and there are 1241 holdings in the portfolio. In 2023, the ETF returned approximately 8.99% and it is already up by 8.90% so far this year.
Source: Morningstar, as of 17 May 2024
We bought the ETF in May, albeit at a higher multiple, but it has been additive to performance.
Source: etoro, as of 19 May 2024
Disclaimer
We own positions in the iShares MSCI EM ETF. Seven Fat Cows is not a financial adviser. You should seek independent legal, financial, or other advice to check if the information from this website relates to your unique circumstances.
