Are Emerging Markets Equities Set Up for Outperformance?

Are Emerging Markets Equities Set Up for Outperformance?

Elle Wu
I’m Elle Wu, a client portfolio manager here at Thornburg Investment Management. I’m sitting here today with Charlie Wilson, co-PM of the emerging market equity strategy. We’ll be discussing why international and why emerging markets. Charlie, hi, how are you today?

Charlie Wilson
Hi. Good.

Elle Wu
So I wanted to talk to you about why international and why emerging markets. We’ve heard this line many years now, like the rise of the middle class, the structure of opportunity, emerging markets. And I was hoping you could talk about why today is different. And what’s the set up for this year?

Charlie Wilson
Yeah, you know, honestly, EM has been a frustrating part of the international investment landscape for the last few years. We’ve expected it to turn the corner quite a few times but unfortunately, we’ve had things that were sort of out of left field like COVID or the US-China trade war that really derailed the recovery in the latter part of last decade.

But if you look at today, where we sit, there’s a lot of the same driving forces that that we were excited about a few years ago. Like, for instance, the middle class and we finally believe that there’s enough money in enough people’s pockets to really be an independent growth driver, so that I’m no longer reliant on global trade and fixed asset investment and commodity exporting. And it’s really kind of shifting to be more of a domestically oriented story combined with that. You know, we’re seeing a period where, you know, central banks have gotten ahead of the Fed in terms of raising rates. And inflation is starting to fall pretty dramatically across much of emerging markets. And so, you know, the combination falling interest rates, which could be happening later this year for quite a few countries combined with this, you know, growing tailwind from the middle-class development there, I think finally puts EM in a footing where it could really outperform.

It really reminds me a lot of the early part of the 2000s where you had slowing develop market growth and a period where U.S. interest rates were rising, and you started to see emerging markets really pull away from the rest of the world in terms of their pace of growth. And I think that the setup feels very similar here. And if you remember, that was a period where emerging markets substantially outperformed developed markets, including the US.

Elle Wu
That’s very exciting. I mean, we’ve also seen what you’ve said was central banks play out in the currencies. So, what is your expectations for the dollar this year?

You know, it’s hard to call currencies on a short term basis, but definitely the fact that central banks have been so aggressive in raising rates has really given them some cushion as inflation starts to abate in those countries to start to cut rates. And I think that they can do that with maybe a little bit more comfort that they’re not going to see currencies destabilize, especially if you’re starting to see capital flow in those regions as economic growth really does continue to accelerate.

Elle Wu
One exciting feature about emerging markets has also been the rise in tech and consumer. How is that played out in the indices and how do you feel that impacts active management versus passive in the region?

Charlie Wilson
Yeah, I mean, this this is a trend that’s been happening over the last decade. You know, if you go back to the 2010, 11, 12 era commodities, especially energy materials, were nearly twice the size that they are today in terms of the overall index. Technology was much smaller at that point. You know, Tencent was a company that was only tens of billions of market cap versus hundreds of billions a market cap today.

And so the evolution of the last decade, going from being, you know, really driven by commodities trade, fixed asset investment has two—one that’s more domestically oriented, consumer oriented has really also led to a shift in how capital is allocated across EM. And you start to see, you know, communication services, technology consumer become more of an important aspect, financials as well, which is really, you know, tell us another version of the consumer story.

Those have all become much larger parts of the overall index, which, you know, to us makes it a much more attractive opportunity because frankly, you know, it’s very hard to differentiate using our strong business process when we focus on the strongest companies of EM when you’re looking at a lot of commodity companies or companies that are, you know, maybe hard to differentiate from a global competitive perspective versus consumer technology or even financials, it’s much easier to find interesting business models which are, you know, more attractive for investment opportunities.

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