Asset class overview
Emerging-market equities have performed well so far in 2024, adding 7.7% through November 30 but underperforming developed countries as the MSCI World Index jumped 21.9% over the same period. Taiwan, with a 29.4% gain, remains the standout emerging-market performer due to its large exposure to technology companies linked to artificial intelligence. Taiwan Semiconductor’s weighting in the MSCI Emerging Markets Index has reached almost 10%, and the company entered the top 10 largest companies in the world by market capitalization. More recently, however, we have started to see investors move assets back into China, which has been the best performing country since the central government announced an economic-stimulus package at the end of September.
Outlook
We forecast a volatile period in the coming months as U.S. President-Elect Donald Trump prepares to take power in January 2025. The outlook for emerging markets over the next 12 months is somewhat positive for emerging-market equities for the following reasons:
Emerging-market currencies have outperformed since the U.S. Federal Reserve started cutting interest rates, and many emerging-market countries have healthy fiscal and trade balances.
The gap in economic growth favouring emerging markets over developed markets should widen - historically a strong support for emerging markets.
Emerging-market equities are becoming more diversified, with the dominance of China receding. China’s weight in the emerging-market index has dropped to 26% from its 42% peak in 2021. Important emerging markets such as India, Brazil and South Africa are largely immune from the tariff tensions.
China, which remains the largest emerging market, offers significant potential for gains with a somewhat limited risk of big declines, as the government acts to stimulate growth and fix the property market.
Emerging markets trade at a 50% discount to developed markets, in terms of price-to-book value, the largest ever discount.
Emerging markets – Recommended sector weights
Note: As of November 30, 2024. Source: RBC GAM
MSCI Emerging Markets Index Equilibrium
Normalized earnings and valuations
Note: The fair value estimates are for illustrative purposes only. Corrections are always a possibility and valuations will not limit the risk of damage from systemic shocks. It is not possible to invest directly in an unmanaged index. Source: RBC GAM
Potential for tariffs
One short-term hurdle for emerging markets is Trump’s threat of additional tariffs on Mexico and China. However, we believe that the U.S. fiscal situation, which is characterized by a large fiscal deficit and high debt, could block significant reforms, and we note that China and Mexico can, and have, negotiated trade agreements with Trump.
Moreover, China’s exports have remained strong as they were diverted to other regions, and China is building solid trade ties with important countries such as India and Saudi Arabia.
China
China surprised investors in September when it unveiled a broad economic-stimulus package. The abruptness of the move was similar to the way the government handled the removal of COVID measures at the end of 2022. Common to both moves was the population’s growing discontent regarding the property market and employment security. Corporations were also feeling the impact of the economic slowdown, especially those tied to domestic consumption. The only engine of significant growth for China this year has been exports, as weak domestic inflation has enabled it to offer goods more cheaply to countries that are dealing with higher inflation and wage gains. However, exports won’t be enough to deliver 5% growth in the world’s second-largest economy. We expect Chinese equity markets to remain attractive over the short term, as the government rolls out measures to fix the property market and restore consumer confidence. Even with the recent surge in Chinese stocks, Chinese companies remain attractive relative to other emerging markets based on returns on equity and price to book.
Over the longer term, there is a question mark about the ability and willingness of the Chinese government to generate sustainable economic growth without implementing reforms. A rapidly aging population is adding to the challenges the country faces as it seeks to advance from a middle-income country to the status of developed country.
India
India has been the emerging-market success story of recent years, and its stock market remains one of our favourite long-term investments after outperforming the emerging-market stock index by more than 20 percentage points over the past two years. However, Indian stocks have underperformed the broad emerging-market index over the past three months pressured by valuations near all-time highs, and economic indicators and earnings revisions suggest further weakness in the coming months.
South Africa
After years of underperformance, South African equities have rebounded following the unexpected emergence of a business-friendly political coalition from general elections held in May. For the first time ever since the end of apartheid in 1994, the ruling African National Congress failed to win a majority, and party leaders chose to align with the right-leaning Democratic Alliance rather than hard-left parties that in one case called for land expropriation. Since the ANC-DA alliance took power, business and consumer confidence have risen, and even with no significant increase in investment and consumption, 2025 earnings will exhibit a strong cyclical recovery amid an easing in blackouts caused by electricity shortages.
There are a number of challenges standing in the way of boosting South Africa’s economic growth above the average 2% level of the past decade, but resolving just a few of those challenges would pay big dividends. Take Transnet, the mismanaged state-owned port and railway operator. Reforms at Transnet would go a long way to restoring exports to 2020 levels and add 1.5 percentage points to the country’s GDP. Tourism, which has not recovered to pre-COVID levels, is another example. The government has taken steps that include simplifying the entry process for Indian and Chinese tourists, a move that could multiply 10-fold the number of visitors from the two countries. A return to the 2019 level of arrivals would improve the current-account balance by 0.5% and add almost one percentage point to GDP. We note that South African stocks remain attractive relative to historical averages and compared with the emerging-market index.