Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.
It’s surely an understatement to say that these are intensely unsettling times. The breakdown of civil order on Washington’s Capitol Hill a week ago, with tragic consequences for some, and unrelentingly disappointing news about new cases of the coronavirus – there have even been limited outbreaks in China – may seem reason enough to be cautious about the world’s prospects in 2021.
This, then, may seem like an inopportune moment to be investing in riskier assets like emerging markets equities, which are sensitive to changes in the global economy as well as economic prospects closer to home. However, strong gains over the past three months – from markets as far apart as Brazil, China and India – suggest a significant shift is, nevertheless, already underway1.
Recent gains look rational enough, given that global growth is expected to accelerate at some point this year. The rollout of vaccines from Pfizer-BioNTech and AstraZeneca – and the arrival of a third vaccine from Moderna – has called time on the coronavirus pandemic. The beginning of a release of pent-up demand in the world economy may now only be a matter of months away.
Meanwhile, Joe Biden’s election victory in November followed by Senate run-off elections two weeks ago – effectively securing Congress for the Democrats – have removed obstacles to a massive increase in US stimulus spending. On Thursday, the president-elect outlined a US$1.9 trillion Covid relief plan, reportedly the first of two planned spending initiatives2.
The IMF – which most recently issued its growth forecasts for 2021 before the vaccine rollout and prior to America’s election “blue sweep” – sees growth in emerging markets of about 6% this year, compared with 3.9% for developed economies3.
Improving growth at a time when the US dollar is weakening – the greenback has been on a downward track since last March – could prove to be a heady mix4. The last time we saw the dollar under sustained pressure – in the period 2003 to 2007 – emerging markets enjoyed a multi-year bull run, even as growth in the developed world stayed tepid.
A weaker dollar has a number of positive implications for emerging markets. It makes them relatively more attractive to international investors who might otherwise have stuck with dollar denominated assets. It also makes it easier and cheaper for emerging markets to access dollar loans to fund their economic expansion ambitions.
However, in a working paper published in 2015, the IMF found the predominant effect of a weaker dollar on emerging markets in the period 1970 to 2014 was the inverse relationship between the US currency and commodity prices5. A weaker dollar tends to lift commodity prices, thereby boosting domestic demand in emerging countries through higher dollar incomes.
It remains to be seen whether this turns out to be the case this time. However, most, if not all of the historical inputs that ensured emerging markets success in the past seem to be with us again: a weaker dollar; rising prices for industrial metals and oil; and improving fund flows to the asset class.
As ever, superior growth prospects come at a price. Risks include likely bottle necks in the roll out of vaccines, questions over how certain services industries can overcome the health fears of consumers, and the finance raising abilities of emerging markets governments after fighting the pandemic. Only time will tell how these battles are fought and won.
Rising government bond yields in the US – a response to rising inflation expectations – may also pose difficulties. Higher US bond yields could drive investors to demand a commensurately higher earnings yield from emerging markets equities, which would tend to limit stock price gains.
Such risks suggest that investors may do well not to look to just one or two emerging markets to access returns this year. It may prove far better to adopt a broader approach that seeks opportunities across Latin America, emerging Europe, Africa and the Far East, as each region benefits from a different combination of drivers.
Emerging markets aren’t unduly cheap compared with where they’ve been before, trading at around 15 times the earnings companies are expected to make in 2021. Comparisons with developed markets do, however, highlight they are not overly expensive either. Importantly, the growth premium emerging markets enjoy doesn’t come at a premium price: World stock markets generally are more expensive, trading on about 20 times this year’s earnings6.
The Artemis Global Emerging Markets Fund, which features on Fidelity’s Select 50 list, seeks “growth at a reasonable price”, which should help it to sidestep pockets of overvaluation as the year progresses. It typically invests in 80 to 120 shares that are diversified by industry and country.
The portfolio currently features large positions in Asia (China, Taiwan and Korea) and smaller investments in Latin America (Mexico, Brazil) India, Russia, South Africa and Turkey. This fund currently yields about 3.3% on an historic basis, although investors should note this level of income is not guaranteed7.
1,4 Bloomberg, 14.01.21
2 CNBC, 14.01.20
3 IMF World Economic Outlook, 07.10.20
5 IMF, Working paper, Collateral Damage: Dollar Strength and Emerging Markets’ Growth, July 2015
6 MSCI, 31.12.20
7 Artemis, 07.01.21
Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. Overseas investments will be affected by movements in currency exchange rates. Investments in emerging markets can be more volatile than other more developed markets. Select 50 is not a personal recommendation to buy or sell a fund. The Artemis Global Emerging Markets Fund may use financial derivative instruments for investment purposes, which may expose the fund to a higher degree of risk and can cause investments to experience larger than average price fluctuations. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.
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