What can strengthen the case for emerging markets?
One of the biggest concerns for emerging markets investors will always be political risk. The relative stability of developed markets in Europe and North America - although notably even that cannot be taken for granted right now either - is not a luxury that exists for emerging markets investors.
That risk of political instability has been exposed this year through the ongoing issues in Turkey, for example, while polls ahead of the Brazilian election later this year suggest the market's preferred candidate is lagging in third.
Some will also see reasons to be cautious from a global monetary policy perspective. Tighter monetary conditions in developed markets can have a negative knock-on impact. Declining liquidity and a return of capital back into developed economies, can leave emerging markets as collateral damage.
However, from a valuations perspective emerging market equities are cheap relative to global equities and as such they look an appealing opportunity on that basis. Although it is also worth noting the most attractive values on a price to earnings ratio are primarily in cyclical stocks like energy companies or financials, in particular Chinese banks, which some investors will not wish to hold.
Trading at a far higher premium are consumer staples, which stand to benefit from the positive demographic trends. Emerging market consumer staples currently trade at around 24x earnings, while developed market peers are priced at around 19x.
Over the long term, emerging market investors should still expect to benefit from the key demographic factors that make it an appealing investment prospect in the first place. Young populations, growing consumer spending power and maturing markets present long-term growth opportunities. And the opportunity to access that potential is not typically available at current prices.
Nonetheless, in the immediate term there are some reasons to be sanguine and we would like to see political risk fade and profits pick up to strengthen the case for emerging markets.
Anthony Gillham is head of investment at Quilter Investors
Bull Points
• Cheaper markets
• Exposure to high growth markets with younger populations and maturing financial markets
Bear Points
• Politics can significantly distort pricing in the short term
• Monetary policy tightening can dampen appetite for these risky assets
