Battered equity markets have led to investors eyeing some of the cheapest valuations in decades, but the "double black swan" events of the oil price collapse and the coronavirus pandemic are set to spell the first aggregate contraction in emerging market GDP since records began, research suggests.
China and Asia
As the birthplace of the coronavirus outbreak, signs are beginning to show that China is emerging from the worst of the pandemic and, as a result, recent weeks have seen investors begin to regard Chinese equities as more of a defensive play, particularly as the authorities have poured in supportive capital.
Patrick Thomas, investment director at Canaccord Genuity Wealth Management - which is maintaining its current EM exposure - said China's relative outperformance to other emerging markets and most developed markets should be attributed to a "play on technology".
He explained: "Tech is the biggest sector in the MSCI EM index and certainly the biggest sector in the MSCI China index.
"Over the next three months, technology is going to be a very resilient sector and a sector that one wants to be invested in. These businesses are very capital light, they are very people-light and generally they have plenty of cash on balance sheets."
Over the longer term, Thomas also identified equity markets in Latin America and India as looking "very cheap" at present.
Deputy CIO of Brooks Macdonald Edward Park said China and other Asian markets are the firm's "preferred region for equity exposure given its low valuation coupled with strong potential for corporate earnings growth".
Meanwhile, Brooks currently has an underweight position in EM ex-Asia, particularly as the US dollar has rallied and oil exporters that comprise a large portion of the EM index like Russia have been hard hit.
Park said: "As equity markets have fallen we have begun to increase exposure to equities selling some positions in short-dated gilts to fund this.
We are conscious that the crisis could continue for a while yet but are using the opportunity to increase equities given relatively attractive valuations."
Dollar weighs heavy on bonds
Local currencies have also come under severe pressure as a result of the surging dollar, driving government bond spreads to levels not seen since 2009.
For emerging market bond fund managers, the strength of the dollar has helped those in the hard currency sector to outperform those in the local currency sector, with year-to-date returns of 10.6% and
Fund managers on Jupiter's fixed income team Ariel Bezalel and Harry Richards told investors last week that "dramatic moves" in FX markets mean we are "now entering a period in which the US dollar will be king, driven in part by the shortage of dollars in offshore markets".
They added: "This is likely to cause considerable pain to the global economy, especially in emerging markets where dollar-denominated debt is estimated to be around $12trn in aggregate and also in the Middle East where the impact of the drop in oil prices will be exacerbated by dollar strength.
"There are simply not enough dollars going to the outside world at this critical juncture."