Emerging Markets’ new economy resilience

3 October 2018

Emerging Markets’ new-economy resilience

Rapid urbanisation and rising per-capita incomes have made the EM middle class a force to be reckoned with.

Emerging markets (EM) have undergone significant structural change over recent years, helping build economic resilience, while reducing their dependence on the developed-world (DM) business cycle.

Many factors are contributing to this economic robustness, including strengthening domestic consumption trends, less reliance on commodities, stronger balance of payments profiles and more stable inflation.

We believe these themes are here to stay – rendering backward-looking analyses of EM less useful when thinking about the opportunities of tomorrow.

Burgeoning middle class a source of stability

Rapid urbanisation and rising per-capita incomes have made the EM middle class a force to be reckoned with.

Unsurprisingly, China is the stand-out example here, but India is catching up quickly – and as the chart shows is set to overtake the US as the second largest contributor to global middle-class consumption over the coming decade.

The power of intra-regional trade

This growing spending power is helping many EM economies shift their focus towards local trends – lessening the historic reliance on developed-market demand (and commodity exports in particular).

Indeed, amid the current US penchant for protectionism there are plenty of signs that intra-EM trade will accelerate, whether through the proposed Regional Comprehensive Economic Partnership (RCEP) – widely seen as an alternative to the much-talked-about Trans-Pacific Partnership (TPP) – or other initiatives such as China’s highly ambitious One Belt, One Road (OBOR) modern-day silk road.

To give a sense of scale, China lists some 68 nations as partners in OBOR, and the anticipated investment across these – in the form of ports, airports, highways, railways, power generation plants and pipelines – has been estimated between US$2–3 trillion.

What’s more, not only have EM economies jettisoned currency pegs, but many have improved their current account positions and built up foreign exchange reserve buffers – which translates into less economic sensitivity to the waxing and waning of capital flows than in the past.

Inflation genie back in the bottle

Tied to the above is a significant improvement in inflation trends, which have been on a path of convergence both within EM and vis-a-vis DM rates (see chart). This has widely been attributed to more credible monetary policy management by EM central banks (the adoption of inflation targeting), as well as reduced currency volatility driven by a broad-based improvement in macro fundamentals. And, importantly, this has in recent years place taken place against a significant drop in unemployment across EM.

In the backdrop, the debt situation across EM also looks much healthier, both at the sovereign and corporate level. In aggregate, EM public debt is significantly lower (as a percentage of GDP) than in developed markets.

Likewise, corporate balance sheets are less geared – last time the net-debt-to-equity ratios for EM and DM were in the same ballpark was in the late 90s, and ever since there’s been a large divergence. And, as for the levels of US-dollar denominated debt, this has diminished as well, helped in part by deeper and more liquid domestic bond markets, as well as a broader shift towards equity-based financing.

Investing with confidence

In our view, EM’s powerful domestic consumption trends, long-term structural growth drivers, greater external resilience and more stable inflation all combine to present a seismic theme for global investors.

Martin Currie’s Emerging Markets team has a strong track record of identifying high-conviction opportunities from this environment. Our robust, differentiated and highly-successful approach to Emerging Markets investing, based on the collaborative focus of a highly experienced team enables us to build concentrated portfolios of our strongest investment insights. Together, these capabilities form a powerful investment approach for our clients, one which we believe they can be confident will deliver exceptional long-term returns.

Past performance is not a guide to future returns. Please be aware that the information provided should not be considered a recommendation to purchase or sell any particular security. It should not be assumed that any of the securities discussed here were, or will prove to be, profitable.