Emerging Markets’ Power and Potential Is Lost in Equity Allocations

Emerging markets (EM) play a much bigger role on the world stage than you might think given their small size in global benchmarks. Investors should take a closer look at the dynamics in developing markets that we believe are creating attractive opportunities in EM equity markets.

Investors in EM stocks are searching for light at the end of a long tunnel. After the 2001–2010 boom, the MSCI Emerging Markets delivered annualized returns of just 0.9% in US-dollar terms from 2011 through 2022.

Past performance, however, overshadows the future potential of EM, which is often understated in global allocations. Consider the sheer size of EM countries, which contain 52% of the world’s population, or 88% if you add frontier and other markets that aren’t included in the MSCI Emerging Markets Index (Display, above). Emerging and frontier markets cover 77% of the world’s land mass and account for 46% of global GDP. Yet only 11% of companies in the MSCI ACWI Index are domiciled in EM regions.

Faster Growth, Reshoring Wave

Low exposure could be costly if EM stocks return to favor. And we believe EM equity markets stand to benefit from a stronger growth backdrop. AB economists forecast real GDP growth of 3.7% in 2023 for EM, eclipsing the projected growth rate for industrialized countries of 0.3%. China and India are forecast to grow at 5.1% and 6.0%, respectively—slower than the past, but far higher than what is expected in the developed world. Meanwhile, EM currencies are attractively valued, which also helps set the stage for potential recovery.

China is enjoying a domestic boom as the country lifts its zero-COVID policy, unleashing pent-up consumer demand after three years of lockdowns and opening the door to a longer-term revival. Recovery in China could ripple across EM countries from Malaysia to South Africa. And within a decade, China is likely to become the world’s largest economy.

At the same time, multinationals are reshoring manufacturing operations away from China. This should benefit countries such as Mexico, Vietnam, Indonesia and India. To get in on the reshoring party, India is reinventing itself with new infrastructure and newfound efficiency. After overtaking China in April to become the world’s most populous country, India is en route to becoming the world’s third-largest economy by surpassing Germany within five years, according to IMF projections.

Innovation Adds an Impetus for Growth

From Latin America to Asia, innovation is sweeping through emerging-market countries. The AI revolution couldn’t happen without EM technology. And the share of internationally filed patents in EM has been steadily increasing, to reach 19% in 2022, based on data from US and European Patent Offices and AB estimates.

After years of disappointment, many investors are underweight EM equities. With multiple catalysts for change brewing and EM stocks trading at attractive valuations, the time is right to reassess exposure to the developing world within global equity allocations.