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There's a new buzz sweeping through emerging markets. Improving fundamentals and attractive valuations are drawing attention after five tough years. Returns and flows are showing signs of life. For investors who have been underweight, developing world assets look very tempting.
From Peru to the Philippines, investors can find an array of companies today that offer promising return potential. But before jumping back in, it’s important to consider what has changed. In the past, investors could succeed by riding the so-called “beta trade,” as emerging-market (EM) equities and fixed income delivered powerful returns over time. But today, without a rising tide to lift all boats, investors can no longer rely on a broad market recovery to drive returns. As a result, we think it’s essential to stay active in emerging markets and take a highly selective approach in order to create portfolios that can deliver long-term outperformance. It’s also important to move away from EM benchmarks, which are backward looking and don’t reflect the most promising future investment opportunities.
We think it's essential to stay active in emerging markets and take a highly selective approach.
Stocks and bonds both recovered sharply in the first 10 months of 2016. Even after declines in November, the MSCI Emerging Markets Index had advanced by 11.2% in US-dollar terms in 2016, outpacing developed equities. In fixed income, the J.P. Morgan Emerging Market Bond Index rose by 11.7% over the same period. The rebound in EM stocks and bonds resumed in the first quarter of 2017.
Corporate earnings are forecast to grow in emerging markets by 16.5% in 2017 (Display below), faster than in many developed-world countries. And the valuation landscape is appealing. EM stocks traded at a 27% discount to global developed stocks based on price/earnings ratio at the end of March 2017 (Display below).