Emerging markets equities: Make way for the anti-incumbents

In the latest podcast, Devan and Tom discuss moving past challenges such as market volatility, policy changes, and strategic adjustments in 2024 before shifting their focus to the potential opportunities for the asset class in the upcoming year.

Transcript

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Tom Harvey

Hello, I'm Tom Harvey from abrdn, and you're listening to the Emerging Market Equity Quarterly podcast show that looks at what happened in the most recent quarter and provides our outlook for the asset class today. I'm joined by my colleague Devan Kaloo, head of Emerging Markets, Devan. Welcome to the podcast. It's great to have you on. 

Devan Kaloo

Thank you. 

Tom Harvey

Now, as usual, we'll look to review where we've been, what this has meant for our strategy and lastly, our outlook. So without further ado, Devan, I'll pass over to you and have you discuss a little bit what we have seen from markets. 

Devan Kaloo

Sure. I suppose, probably the best way to start this off in terms of strap line for 2024 is to talk about undelivered promise. Because when I think about, what we were saying and what the market was, saying at the beginning of 2024, emerging markets were certainly expected to do better than developed markets.

And indeed the US, the expectations of a slowing US economy. Peak rates, peak dollar as well as a delayed, China recovery coming through. And of course, an infrastructure and tech boom are going to be the key ingredients that drove, emerging markets higher. And of course, what we saw instead was, something quite different, the volatility that we saw in emerging markets and indeed markets more broadly, was pretty pronounced.

And investor sentiment swung all over the place in the year. So we saw, with the US, expectations of a slowdown, potentially even a recession swinging around to a really strong economy. And with that, expectations for what rates were do and what the US dollar would do changed significantly over the year ending the year with the dollar actually up, pretty strongly, over the 12 months.

And then of course, we've had, will they won't they. And then eventually, how much will they, in terms of the China stimulus, which was another big factor that people had anticipated but actually didn't quite come through as people had anticipated. And of course, we had elections across the globe, not least in emerging markets, where I suppose if I was trying to sum it up in a few words, I would say that generally anti-incumbent and populists were the main winners, to come out of those elections.

That said, probably the most consequential election was, in the United States. Of course, with, Trump's victory. And that has pretty significant implications for emerging markets as we go into 2025. I think the only thing that really came through strongly, as people had hoped, anticipated was that, the infrastructure and tax returns were pretty good. So certainly, as we saw in the US with the Magic seven or magnificent Seven, we saw many tech stocks in emerging markets doing well as well and perhaps surprising many people, because certainly at the middle of 2024, this wasn't the expectation was that China ended the year up 17%.

But overall, emerging markets in dollar terms up about 8%, which is, well short of what we achieved in the US markets, although it was better than what you achieved in many parts of the rest of the world. But I think, the returns ultimately were underwhelming relative to what people had expected at the beginning of 2024. 

Tom Harvey

Great Devan, it's a great summary. Thank you very much for that. So with, that backdrop of maybe some disappointment, what did that mean for for our strategy? 

Devan Kaloo

Well, it's been a tough year for our strategies, and I would probably break it down into two halves. I think in the first half, what we saw was, China in particular doing quite poorly. And in that the quality component of the China index continuing to lag relative to the broader market. And seeing as we ultimately quality investors, that was a big issue for us. Secondly, we saw a few markets, being whipsawed by the changing expectations for the US dollar. U.S rates, and certainly one of the markets where we were quite positive on, Indonesia, suffered as well and that subsequently impacted, performance.

And then finally, I suppose the other big one to perhaps mention was, with regard to Mexico now, I think most people would expect that, selloff in Mexico could perhaps be tied to the Trump win. Actually, the Mexican selloff began before that. And when I mentioned earlier on about anti incumbents winning, one of the things that was surprising in Mexico was that the incumbent won, but they won with a bigger majority.

And with that, you saw the risk that them pursuing more populist measures. And that was actually the big catalyst for the selloff in Mexico. And that certainly impacted. So that said, the fund did less well than the index. And I suppose one of the concerning areas for us, as we took stock in the end of the first half, was that stock selection, particularly in places like China, India and Korea, would not where they would be, or where we would expect them to be given, you know, our bottom up approach or fundamental approach.

So it's probably worth just flagging that, we certainly did a, a few changes mid-year, to try and refresh, some of our positions back in conviction, in some of these key markets. So in terms of the second half, it was better, we were flat to slightly ahead. But perhaps the most important bit here was that stock selection was very positive.

And particularly in these markets where we've rejecting. So I think well set up, for the rest of 2025, but it was a frustrating year for us as investors. And I suspect, more broadly for investors investing in emerging markets. 

Tom Harvey

And then I suppose what everybody puts their eye towards as we moved into the new year here, what do we think is in store? How do we think about markets as we begin this journey in 2025? 

Devan Kaloo

Well, that's an interesting question. So I suspect, I'm going to start, as you probably would imagine, by saying that consensus believes, that emerging markets are going to have a pretty tough 2025. And certainly there's a fairly long list of things which could be highlighted as potential headwinds.

So of course, we have the move from discussion to actual implementation of the US tariff policy. So that's going to be pretty important to see what comes out from the US president, with regard to China, but also more broadly, because obviously we're talking not just about China here in terms of potential targets, but other countries as well, and what that ultimately means.

The second thing, of course, is that, potentially with the US talk of tax cuts and deregulation and maybe even with the help of some tariffs, you could see strong US growth and inflation, which potentially means less rate cuts and therefore a stronger dollar. And a strong dollar is never a good backdrop for emerging markets. And then of course, I think we can't not mention that, there is obviously ongoing concerns about Chinese stimulus and whether or not that would be sufficient or whether action will come through for the size of the economic problems they confront.

So certainly when you're looking at the broad market consensus, I would say that, the recommendation is to be defensive, to be fairly selective, go for markets which are less sensitive to US policy, like India, for instance, or relatively dollar insensitive like the Middle East. So that's certainly one camp. I suppose it would be, remiss of me not to perhaps put the other side of that story, though.

And the other side of that story, of course, is that, EM valuations and indeed foreign ownership of emerging markets is very, very low, certainly relative to the US markets. And from a pretty low base, there is significant scope for China to surprise and the upside regard to policy. And one of the things that we certainly believe is that the Chinese will move to respond to tariffs or US policies against China by stimulating the economy.

And that potentially has, depending on the scale, potential to to be quite a significant, beneficiary for the economy. Indeed, the market. And of course, it's also worth bearing in mind that, Trump may struggle, or may choose not to apply the more controversial aspects of some of the policies that he's talked about, striking deals instead.

And certainly if we go by Trump 1.0, it was relatively positive for emerging markets. So perhaps that would be an element of pragmatism. So certainly for those reasons, I think not all hope is lost. And certainly there's lots of things to be relatively positive about. And one of the areas where we remain very confident about is just the quality of the companies.

So when we look at the companies that you can find in emerging markets today, they remain in food, health, generating decent returns and growing earnings. And of course, one of the things that is important to us is that in this period of uncertainty, we expect, quality to start to do better. And that certainly will help given our approach to investing.

So rather like consensus. Was surprised in 2020 for consensus, may yet be surprised in 2025. And it could be a better year for emerging markets.

Tom Harvey

That feels like a good place to bring this podcast to a close, and I just wanted to thank you for joining us today.

Devan Kaloo

No thank you. My pleasure. 

Tom Harvey

And thank you to everyone who took the time today to listen in.

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