Capital Ideas^TM

Risks may be associated with investing in emerging markets, which are volatile and may suffer from liquidity problems.

Not the emerging markets of the 1990s

The emerging market universe today looks very different to that of the 1990s. Domestic inflationary pressures that were once these countries’ weak point have generally been steadily reduced from an average of 78% in 1990 to 5% in 2020. Government debt has risen from around 45% of GDP in 1990 to 63% in 2020, but looks manageable compared to developed countries, which have seen government debt levels jump to over 120% of GDP in 2020. Meanwhile, emerging markets have seen their aggregate current account balance move from deficit to surplus. Compared with the 1990s when several emerging market economies experienced crises, foreign exchange reserves are now generally substantial, and currency pegs are less common, giving emerging market countries more flexibility in responding to crises.¹

In addition to the adoption of more orthodox fiscal and monetary policies, many emerging markets have also become more dynamic, less cyclical, and more competitive in the knowledge economy. From a variety of tech components (TSMC chips), to electronics, digital payments, e-commerce, biopharma, gaming, social media and many more areas, emerging market companies are innovating and becoming increasingly competitive on a global scale.

Meanwhile, emerging market debt has evolved from a mainly US dollar, Latin American sovereign, high-risk asset class to a much more diverse and higher quality universe, including both local currency and dollar corporate bonds from all over the world. “The increase in the breadth and depth of emerging market debt has given portfolio managers more degrees of freedom to position their portfolios in a way that benefits from their top-down views given that many of these sub-asset classes within emerging market debt have very different risk-return characteristics,” says fixed income portfolio manager Luis Freitas de Oliveira.

Over 50% of the dollar index is currently rated ‘investment grade’ by the credit rating agencies. This is despite the addition of frontier markets issuing US dollar debt at index size and also recent downgrades to multiple credits. For almost 90% of its lifetime, 70% of the local currency index has been rated investment grade by the agencies and the index currently carries an average rating of BBB.²

In this paper we share 10 themes that we believe will drive opportunities in emerging markets in the next 10 years.

1. Emerging market middle classes are driving growth in air travel

Before the COVID-19 pandemic, around 150 million people in Asia travelled for the first time each year. Over the next 20 years, the region is expected to account for around 50% of incremental air traffic³ , fuelled by the rapidly rising middle class population.

If anything, the inability of leisure seekers in Asia to travel during the pandemic has only added to the desire to do so, and there are already signs of strong pent-up demand. The situation in China is a case in point as its domestic air travel had almost returned to pre-COVID levels in late 2020 after it brought the coronavirus outbreak largely under control. However, the recent rise in coronavirus cases brought back some travel restrictions.

 

1. Source: IMF World Economic Outlook, as at April 2021

2. As at 28 April 2021. The local currency bond index is JPMorgan GBI-EM Global Diversified and the dollar bond index is JPMorgan EMBI Global. Source: JPMorgan

3. Source: Boeing Commercial Market Outlook 2020-2039

 

• This material is not intended to provide investment advice or be considered a personal recommendation.
• The value of investments and income from them can go down as well as up and you may lose some or all of your initial investment.
• Past results are not a guide to future results.
• If the currency in which you invest strengthens against the currency in which the underlying investments of the fund are made, the value of your investment will decrease. Currency hedging seeks to limit this, but there is no guarantee that hedging will be totally successful.
• Depending on the strategy, risks may be associated with investing in fixed income, emerging markets and/or high-yield securities; emerging markets are volatile and may suffer from liquidity problems.