Emerging Markets: Prime Candidates For Outperforming In 2019

After a bad performance in 2018, emerging equities should rebound. We believe that the best-placed markets to take the leadership from the US are emerging stock markets. The premise for this assertion is our stance on China growth. Thanks to a wide range of policy initiatives, growth in China should stay above 6% in both 2019 and 2020. Confirmation of this, however, will take time to become visible. Prerequisites are a truce in the trade dispute between the US and China and a stabilisation in the latter’s credit and fiscal impulses. There are tentative signs of a stabilisation in emerging markets’ manufacturing PMIs. Independent of improving fundamental trends, the following factors will help relative performance: first, benign trends in global inflation will keep the pace of monetary tightening very slow and the upside for bond yields contained. Second, the US dollar should lose some weight on a trade-weighted basis. Third, the growth differential is likely to favour emerging markets over developed markets, which will translate into above-average earnings growth for the former. Finally, relative valuations are attractive (discount of nearly 20% on both the PE and the price-to-book ratios).

Latin America

We upgraded LatAm to neutral from negative in 2H18. The dovish Fed monetary policy, declining trade tensions with the US and stabilising China economic growth have been supportive to the zone. Investors have been reassured by the recent political news flow in Mexico (budget). Political expectations are high in Brazil. Pension reform will likely be considered as the first checkpoint of the new administration’s commitment to fiscal consolidation. We recommend keeping an eye on politics in LatAm, Valuations are cheap.

EM Europe

We are positive on EM Europe. Thanks to solid fundamentals, the zone was extremely resilient in 4Q18.  The sharp weakening of Eurozone economic data and leading indicators however points to continued downside risks for the zone. Given the importance of the European growth cycle for the regional economic outlook, the softer pace of Eurozone activity may lead to a further deceleration of export and productivity growth in Central European tradable sectors. We nevertheless keep a positive stance on Central Europe (solid growth, inflation under control, and no hikes by central banks).

We are however neutral on Turkey despite the recent rebound. The macro and political situations remain riskier than in other EM European markets.

Asia

Asia is our favourite emerging zone. In 2017 the region benefited from a strong economic growth momentum, a large weight in Tech stocks and a good financial profile (with current account surpluses).  In 2018, the momentum was more difficult due to trade concerns and their impact on Chinese equities.

We however remain positive on China although market volatility is expected to be high in the near term. Earnings estimates continue to be revised down. The markets will focus on the outcome of China-US trade negotiations and are anticipating corporate tax and fee cuts as well as consumption boosting measures to be delivered by the National People’s Congress in March.

We have upgraded South Korea and Indonesia in recent months as we expect a stabilisation in China and an easing in trade tensions. South Korea equities are attractive. Earnings growth for 2019 has been revised down sharply over the past 3 month, but there is plenty of room for upward revisions if there are more supportive government policies.