Emerging market equities have struggled compared to developed market equities over the past year, as their divergent ways to deal with the coronavirus pandemic has shaped returns.
China for example, has experienced rolling lockdowns in various regions around the country to keep up its zero-Covid policy.
But the country has also struggled to deal with an energy crisis, widespread regulatory crackdowns on technology companies, and debt contagion fears surrounding the collapse of major property developer Evergrande.
Chinese equities, which make up a third of the emerging markets index, has been a large headwind for performance over the past year.
In Sterling terms, the MSCI World index is up 21.9% over the past year whereas the MSCI Emerging Markets index is down 0.98%.
Performance of emerging markets versus developed markets ytd
Source: FE Analytics
To get an insight into where emerging markets may head next year, Trustnet asked various emerging markets fund managers what their outlook for the asset class is in 2022.
Below are five themes fund managers will be watching in emerging markets in the year ahead.
China could positively surprise
An area that could surprise the markets in 2022 is China, according to Nick Price, manager of the Fidelity Emerging Markets fund.
He said: “It has always been a highly regulated and controlled market and the recent setbacks to the property and new economy sectors may continue in the near-term, but this downcycle can offer up opportunities to buy high-quality names in beaten-down sectors.”
Although 2022 could prove to be challenging as property and construction slows, he thinks a lot of the sentiment and bad news may well already be reflected in prices.
He added: “China’s economy appears robust - exports have benefitted as consumers spend on goods, not experiences and travel, and there are some encouraging early signs that China may be bottoming out.”
India’s growth could exceed expectations
After a deadly second wave of coronavirus, India’s economy has roared back and is prime for continued growth, according to Rob Brewis, manager of the Aubrey Global Emerging Markets Opportunities fund.
He said India is getting back to a higher-growth setting, which has been made possible by the “significant, and perhaps underappreciated” strides the country has made in recent years.
“There are a multitude of reasons why we believe this really is India’s time,” he explained.
“These are mostly structural (better infrastructure, reduced corruption, lower inflation, urbanisation, financial inclusion and technology, booming manufacturing…), but are also cyclical (residential property upturn, low corporate leverage, potential investment cycle). We could go on.”
But this has not gone unnoticed by the stock market, he said, noting the country’s strong stock market performance and somewhat stretched valuation levels.
“We have reduced some exposure, but are reluctant to leave the dancefloor given the aforementioned potential,” Brewis added. “Growth is most likely to exceed expectations.”
Performance of MSCI India year-to-date
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Source: FE Analytics
Vaccinations and travel benefits
Emerging markets are set to benefit disproportionately from the re-opening of travel and vaccinations, according to John Malloy, manager of the RWC Global Emerging Markets fund.
“As the world continues to vaccinate its inhabitants, a recovery of travel is expected be a significant boost to the emerging and frontier economies that have a significant proportion of GDP from tourism,” he said.
“Additionally, indirect contribution from travel, which includes the impact on related industries such as food and beverage, retail and entertainment, can be double the direct contribution.
“We continue to see an uptick in international travel bookings, and this is expected to recover to pre-pandemic levels over the next few quarters.”
The manager said the stronger industry leaders in the space have been consolidating and growing their market share at the expense of the smaller players with weaker balance sheets during the Covid lockdowns.
Although air travel post-Covid-19 still depends on government policies, he noted that some governments are beginning to become less stringent on reopening rules.
Technology-driven tailwinds
Strong technology demand in emerging markets will be a multi-year tailwind for the asset class, according to Chetan Sehgal, manager of the Templeton Emerging Markets Investment Trust.
“China has served as a massive laboratory, pioneering business models in e-commerce, online payment and other services that other markets have subsequently adopted and adapted to succeed in their own right,” he said.
“In South Korea, for example, a leading internet search company is also one of the largest e-commerce players in the country. A major Russian bank has built an online ecosystem spanning e-commerce and other digital services. Many internet businesses have also just started to list publicly in markets such as Southeast Asia and India.”
Internet businesses in emerging markets have become all-pervasive and still have significant scope for growth across emerging markets, he argued.
“As the number of internet companies multiply, so will competition,” he added. “We are mindful of this and favour companies that can sustain their competitive advantages. We are also on the lookout for the next big innovations.”
Beware the strength in the US dollar
Andrew Pease, head of investment strategy at Russell Investments, said that if the US dollar weakens and there is significant stimulus in China, emerging market equities could do well in 2022.
“This scenario is possible,” he said. “But should we not see these factors align, emerging market asset classes face headwinds heading into 2022.”
The US dollar has strengthened through 2021 on market expectations that the US Federal Reserve will increase interest rates.
This strength should diminish once investors realise the Fed is likely to stay dovish when inflation risks decline, Pease argued.
“The spread of the Omicron variant also increases uncertainty, which may postpone rate hikes,” he added.