Emerging markets: From rate cuts to election uncertainty

We discuss how recent US rate cuts and the looming presidential election uncertainty are poised to impact emerging markets, shaping investment strategies and opportunities for the months ahead.

Transcript

Paul Mohr: Hello. My name is Paul Mohr, Senior Director here at abrdn, and you're listening to the Emerging Market Equity Quarterly Podcast. The show that looks at what happened in the recent quarter and provides our outlook for the asset class. Today I'm joined by my colleague Devan Kaloo, Global Head of Equities. Devan, welcome to the podcast. Great to have you on.

Devan Kaloo: Thanks so much. 

Paul: Well, let's start today's show. Looking back at the third quarter. What are some of the key highlights from emerging markets. And and how did the abrdn portfolios do. 

Devan: So it has been a surprisingly strong quarter for emerging markets. So emerging markets are up or miss 9% in dollar terms of the quarter. And they beat both the world index as well as the US index in that period.

And there's been an awful lot of news. If I look at the probably the key things that, impacted markets or certainly investors were thinking about, I suppose the first one up was whether the US rates would come down or not. As you know, at the beginning of the year, there was lots of concerns that maybe the US economy was too strong and that, fed rate cuts were being pushed out, if at all.

The second was with regard to Chinese stimulus. It hadn't worked to date was ever going to work. And then the third, of course, is ongoing geopolitics. And here I'm talking more about the probably the two big ones, which is the upcoming US elections and of course, the ongoing turmoil in the Middle East. I think, with regard to emerging markets in Q3, they probably got favorable answers, or semi answers to at least two of those, big issues.

So the first big issue with regard to, US rates, the fed went back. They cut rates by 50 basis points. That's, tremendously good news for emerging markets, primarily because it allows many emerging market countries to follow suit and puts the pressure or reduces the pressure, I should say, of the US dollar. And that's a good news for em.

And we saw that quite quickly. So the Chinese announced quite soon after the fed rate cuts, a whole raft of stimulus measures. Most importantly, were probably three key areas. The first was the threat of reduced interest rates, which I think, given the US cutting rates, gave them the scope to do so.

The second and perhaps most interestingly, because this was the area which was been sadly lacking to date is announced more fiscal measures. So not just tackling the monetary side of the equation in terms of poor demand in China, but also looking to tackle the, the fiscal side of it. And last, by and by certainly no means least.

They also came out with some very strong comments about looking to support the economy and property markets specifically. Now, all of that was taken extremely well. And you saw the Chinese market rally, very quickly after that. I think the third issue around geopolitics is still the big unknown, and we need to see how that all pans out.

But, the US election has certainly some big implications for emerging markets. And of course, the further, policing of the confrontation of the East potentially has negative implications more generally in terms of higher oil prices and potentially inflation, global growth. But that has yet to be seen. And as a result, we'll see in the near future how that pans out, specifically with regard to the funds, I suppose, the key things were that funds were generally 30, 50 basis points ahead over the quarter, which is a said was a strong quarter.

I think in terms of the positives, it was great to see China, Hong Kong coming back strongly for us in particular stock selection. You will know that, we've had a very torrid time over the last year and a bit, in terms of our stocks and China, lagging the overall benchmark and indeed the benchmark being weak itself, as quality has generally underperformed some of these lower quality, stable enterprises.

So it was great to see on the back of stimulus measures that many of these quality names did very well. And certainly, we've benefited from that. So that's been a strong contributor. The second is that India was also a good contributor for the quarter. Again, good stock selection. One of the things that we did at the beginning of this year was to shift away from some of the mega caps on large caps in India and down into mid-cap space.

That certainly worked out very well for us in terms of its performance and reflects actually some of the changing dynamics in the Indian market, specifically with regard to more domestic inflows into India. And the reason why that's relevant is because typically, domestic investors are buying mid-cap names about in large cap names. And to find a bit of good news, in terms of the things that really helped, over the quarter was that we were finally able to realize some value on our some of our Russian holdings.

But you know, that and the the invasion of Russia back into to, invasion of Ukraine by Russia in ‘22, we took, a hit to the portfolio in terms of writing down to zero, the value of many of our holdings. We have been working diligently to try and realize some of that value. And while we had to take some significant discounts, we were able in, September to do that.

So that was been a good ride back to the funds on the negative side of things, because we always need to be balanced in this. I would say that there were a few things. The first, was, the Netherlands or specifically our Dutch semiconductor place. In terms of the semiconductor stocks and in particular these names in particular, in, in and specifically, there was a selloff in tech in August, going September, there were some wobbles around future AI demand or potential push out or demand from Nvidia, but also more generally, some concerns about whether or not the PC smartphone cycle would take off.

And as a result, we saw some profit taking on tech. That was a bit painful. But I suppose the flip side of that is that tech is being a strong positive contributor to us, this year. Even more annoying than that, though, is one of our holdings in Kazakhstan. In fact, our only Kazakh holding, was towards the end of the month of end of the quarter.

Was subject to a short report. I believe I'm not allowed to comment on these things, but I would say that is probably the worst short report I've ever read. But, the is in closed period. And as a result, not much that they can do, but that certainly impacted relative performance. And the final point, really just in terms of detractors, was Mexico.

You will may have read in the news about, the Mexican, incumbent government winning a much larger, election victory than expected. And it was result was able to put through some fairly far reaching reforms, including reform to the, judicious, judicial system, which potentially removes, one of the checks and balances within that system of government.

And as a result, the equity markets sold off as worries about, or greater uncertainty about, Mexico going forward. Our view is that, Mexico remains still a strong nation story, and there is strong institutions. So it should be able to get through this. But certainly was disappointing to see, those results, I suppose if I'm on a road and finishing off, maybe I'll tackle the thorny issue of outlook.

I suppose the key things, when we think about emerging markets is, it was great to see them doing better than, markets more generally. But for it to continue, a number of things need to be or you need to be convinced about, the first is that to us rate cuts, here to stay and potentially will come down further, and specifically around that, that the US is heading for a soft landing.

Paul: That's good news for emerging markets. Good news, for global markets more generally. The second thing is that, China stimulus is for real. As I said, we've had a few false dawns. But certainly some of the least language, has been pretty positive, but it does need to be a follow through with regard to spending the money to stimulate the economy.

Devan: And then the third thing, of course, is the great uncertainty, which is happens with regard to the US elections and, the Mideast. But, balancing that uncertainty, what I would go on to say is that the corporate fundamentals in emerging markets still remain very strong. And in particular, valuations relative to developed markets in particular, the US market looks pretty attractive.

So we're still cautiously optimistic about emerging markets going forward. Okay. Thanks for that, Devan. Let's take a deeper dive into some of that uncertainty you referenced there, specifically regarding the, the Middle East. What what is our positioning in, in the region and and what are your thoughts moving forward, with those orders? So the Middle East today is about 6 or 7% on the overall index.

We are underweight at snap, a 5%. Biggest exposure, is in Saudi and, Saudi Arabia and the UAE. And, I suppose the big point about the Middle East is that if there is a wider confrontation between Israel and Iran, then potentially the risks, to oil and shipping through, the Straits of Hormuz.

And as a consequence of that, potentially that pushes the oil prices and, more generally has an issue with regard to, shipping costs and charges. So it is not good news, for the economy, global economy, and certainly not good news for inflation. That said, this confrontation is now, more than a year in and seems to have been an awful lot of effort extended to try and contain it.

And we and see how this, the US sorry, how Israel, retaliates, to the recent Iranian attack, because that will give us some evidence of just how further to the conflict spreads. But the key thing there really is that regardless of, what's happening in Iran and, Israel, many of the Gulf states continue to enjoy quite strong economic growth.

And indeed, high oil prices should support that as well. So it's an interesting situation whereby some of the countries in the Middle East actually benefit from some of these tensions, as long as it doesn't spill out into some major, major, wider confrontation. Oh, great. Thank you. And just, shifting the view back to the, the US here, dialing in from the the the battleground state of Pennsylvania here.

Paul: So, the US election is very near and dear to my heart. Looking forward to that. You know, how could the the outcome of this election, whether it's a Trump victory or Harris victory, impact the emerging markets? What, you know, what does it look like from your perspective? Well, as you can imagine, there's lots of machinations and, wargaming on what the potential, election victory will, result.

Devan: So, I should say, will lead to. But I suppose in broad, sweeping statements, Harris victory represents continuity. And that would remove uncertainty and therefore would probably be taken relatively well by markets. In contrast, a Trump election victory would create more uncertainty and specifically on the nature of that victory. So if, Trump was to do a clean sweep, for instance, there would be some, there would be more implications than if they just won the presidency and didn't necessarily win Congress at the same time.

So I suppose the key components here are that if tariffs are increased as suggested, that will have, consequences for global economies, and in particular for China. So respectively, I think there's a flat tire with 10% being mooted and a 60% tariff increase for China that would have impact on these economies. And therefore, markets would take that, poorly.

I think the second thing is, whether or not, the Trump government was to pursue its, increased fiscal spend or, and, specifically with regard to the increasing the deficit by cutting taxes. While that would be in the short term good news for the US economy, I think over the longer term would create some problems. But certainly what you would see is a dollar for the value on the back of that initially.

And that would be not a great news. For markets outside of the US. I think the last point, probably just to bear in mind with regard to, the Trump election victory, is that, the Chinese are probably pretty aware or certainly aware of the best possible outcomes. And it's worth while bearing in mind that if there was to be a Trump victory whereby the Chinese, faced, significant increase in tariffs, it could prompt a devaluation of the Chinese currency as they look to, just or for the increased, tariffs.

The other thing just to emphasize is that, over the last few years, the amount of Chinese exports to the US has declined quite significantly, and Chinese exports to the rest of the world has increased quite significantly. In particular developing countries. And as a result, perhaps the impact on China would be less than feared. But to be honest, that is really just at the margins, why it would be difficult for equity markets in the short term if they tried to price in the uncertainty of policy.

Paul: With the Trump election victory. All right. Thank you. Well, I think with that, that feels like, like a good place to, to end this episode of the podcast. So, Devan, thank you very much for, for joining us today. It's great pleasure. Thank you. And thank you to everyone who took the time today to listening.

If you enjoyed today's conversation, then please download our other podcasts from our website or wherever you may normally get your podcasts from. Thank you very much.

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