A number of factors spurred improved investor sentiment in emerging markets over the past month, including an interest-rate cut from the US Federal Reserve. Franklin Templeton Emerging Markets Equity outlines the news and events shaping market moves during October, and the reasons why the team is optimistic about the coming year.
Three Things We’re Thinking About Today
- News that the United States and China made progress in reaching a partial trade deal in October was cheered by investors globally. The “phase one” agreement, which was originally expected to be signed in November, is said to cover agricultural products purchases, financial services, currency and intellectual property. While the deal is still in flux, the United States did suspend the tariff increase on Chinese imports that was scheduled for October 15. Although the US-China trade conflict has been dominating headlines, it should be stressed that the impact of the conflict has not been limited to China; rather, we have seen global implications. In addition to diversifying its trading relationships, China has been turning less dependent on trade. Domestic consumption now makes up the lion’s share of China’s economic growth, accounting for 76% of gross domestic product (GDP) in 2018, up from 59% in 2017.1
- While concerns of a slowdown in economic growth have been weighing on market sentiment, the International Monetary Fund (IMF) expects global growth to accelerate in 2020, driven primarily by a recovery in economic activity in emerging markets (EMs). The IMF forecasts economic growth in emerging and developing economies to accelerate to 4.6% in 2020, from 3.9% in 2019, and more than double the expected 1.7% increase for advanced economies in 2019 and 2020.2 Improving fiscal, economic and monetary policies and a renewed focus on structural reforms in several EMs appear to be gaining traction. The results of these trends are expected to become more evident in strengthening GDP growth in 2020, which could also provide a more favorable operating environment for EM companies.
Technology is expected to become a key driver of global growth, especially in EMs where companies have been using innovation and technology to leapfrog and disrupt traditional business models. EMs’ accelerating internet usage and penetration are likewise hastening opportunities for efficiencies, cost savings and ease of doing business. Since the turn of the century, we have also witnessed a significant increase in the trade value of “high-tech” goods being exported by EM countries. This includes a range of sectors including aircraft and spacecraft, automotive, electrical production and equipment, computing and data storage, as well as optical and medical technology equipment. Compound annual growth in these types of exports is expected to be 16% for the years 2017-2023.3
Optimism toward EMs has picked up following another interest-rate cut by the US Federal Reserve (Fed), as well as increased expectations for the signing of “phase one” of the US-China trade deal. While both sides appear to be approaching a partial trade agreement, we remain cautious and expect to see some market volatility until a more comprehensive deal is finalized.
Despite the uncertainty, we continue to see investment opportunities across EMs. We expect overall corporate earnings to strengthen in 2020 as upturns in some parts of the technology sector offer support. We also consider valuations for EM equities to be attractive relative to developed market equities. Meanwhile, we remain on the lookout for areas where corporate governance could improve and potentially bolster shareholder value.
We are focused on identifying high-quality companies where we see sustainable earnings power, and which trade at what we think is a discount to their intrinsic worth. We see strong competitive advantages in several technology and consumer-related companies that are also among our top holdings, and we believe they have the potential to extend their market positions even in a challenging environment.
Emerging Markets Key Trends and Developments
EM equities rose in October and outpaced developed market stocks. The prospect of a partial US-China trade deal, plus interest-rate cuts from the Fed and other central banks around the world, eclipsed pockets of political uncertainty in Latin America and the Middle East. EM currencies as a whole strengthened against the US dollar. The MSCI Emerging Markets Index gained 4.2% over the month, compared with a 2.6% return in the MSCI World Index, both in US dollars.4
The Most Important Moves in Emerging Markets in October
Asian equities finished the month higher. Chinese stocks benefitted from a tentative pause in US-China trade disputes as both countries worked toward concluding the first phase of a trade agreement. Technology-heavy indexes in Taiwan and South Korea rose on the back of improved expectations for smartphone and memory chip demand. The Bank of Korea also lowered its benchmark interest rate to support the domestic economy. Conversely, Thailand’s equity market retreated amid a weaker economic outlook, and subdued corporate earnings.
Mixed news dominated Latin American markets. Colombia and Brazil were key gainers in the region. The long-awaited passage of a pension reform bill in Brazil cheered investors, as did the central bank’s decision to cut its key interest rate to a record low. Sentiment in Mexico rose on President Andres Manuel Lopez Obrador’s plans to unveil several major infrastructure projects to boost the economy. However, social unrest in Chile and the defeat of Argentina’s business-friendly president in the country’s general election checked positive sentiment.
In the Europe, Middle East and Africa region, Hungarian and Russian equities advanced the most. The Bank of Russia announced a larger-than-expected interest-rate cut amid subdued domestic economic growth. In South Africa, investors focused on the government’s medium-term budget policy statement, which flagged a wider budget deficit and higher debt ahead amid an ongoing bailout of state power utility Eskom. At the other end of the spectrum, equities in Turkey and Saudi Arabia fell.
Regional OutlookAs of 30 September 2019+-South AfricaThe outlook remains muted and dependent on the government. 2019 is likely to be tougher than expected with additional pressure from a weaker global backdrop.
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All investments involve risks, including possible loss of principal. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Special risks are associated with foreign investing, including currency fluctuations, economic instability and political developments; investments in emerging markets involve heightened risks related to the same factors. To the extent a strategy focuses on particular countries, regions, industries, sectors or types of investment from time to time, it may be subject to greater risks of adverse developments in such areas of focus than a strategy that invests in a wider variety of countries, regions, industries, sectors or investments.
1. Source: National Bureau of Statistics of China.
2. Source: International Monetary Fund, World Economic Outlook Database, October 2019. There is no assurance that any estimate, forecast or projection will be realized.
3. Source: Coriolis Technologies.
4. Source: Source: MSCI. The MSCI Emerging Markets Index captures large- and mid-cap representation across 24 emerging-market countries. The MSCI World Index captures large- and mid-cap performance across 23 developed markets. Indexes are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or guarantee of future results. MSCI makes no warranties and shall have no liability with respect to any MSCI data reproduced herein. No further redistribution or use is permitted. This report is not prepared or endorsed by MSCI. Important data provider notices and terms available at www.franklintempletondatasources.com.
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