Emerging market (EM) equities are poised for a turnaround after a more than decade long bear market compared with developed market stocks, according to Varun Laijawalla and Archie Hart, co-portfolio managers of the EM equities strategy at Ninety One.
“With a caveat about the difficulty of timing inflection points, the building blocks for a turnaround are falling into place, with parallels to the point some 20 years ago that preceded a bull-run,” said Laijawalla.
Laijawalla and Hart point to five factors to support their thesis, namely: the waning strength of the US dollar, strong fundamentals, structural tailwinds including rising income levels, robust earnings growth and compelling valuations.
With regards to the US dollar, Laijawalla and Hart note that the situation today resembles the period in the early 2000s when the US dollar peaked, which preceded a bull run for EM equities.
However, Laijawalla points out that it is not necessary for the US dollar to fall, but merely to stop rising as quickly as it has done over the past decade, which is likely to happen given imminent Fed rate cuts.
“While its future path is unclear and unlikely to be linear, the scope for further dollar upside may be more limited than previously,” he said.
Regarding fundamentals, Laijawalla and Hart point to the skill demonstrated by EM central banks in navigating inflation, which leaves open the prospect of further rate cuts, while at the corporate level, corporate governance is improving, particularly among Chinese companies.
“The increased levels of share buybacks and dividends paid out paints a positive picture and signals that management teams believe their shares are undervalued by the market and see better growth prospects and cash flow generation in the coming years,” said Hart.
Meanwhile, supportive tailwinds include rising income levels, technological development, the drive towards net zero and infrastructure spending, while earnings growth remains high, ranging between the high teens and around 20%.
Finally, Laijawalla and Hart point to attractive valuations with the gap between EM and the US now near its widest in 40 years following a bull run in US equities and depressed valuations among Chinese companies.
However, Laijawalla and Hart note that there are many risks, including the US elections, potential higher-for-longer interest rates should inflation prove sticky, the possibility of depressed growth in China and geopolitical tensions.
