The Impact of US Policy on Emerging Markets: Three Investor Misconceptions

As investors continue to grapple with market jitters brought on by months of US-China trade tensions and other market uncertainties, Franklin Templeton Emerging Markets Equity’s Chetan Sehgal explains why the recent volatility could present opportunities in the medium to long term. He also considers some investor misconceptions about emerging markets and the positive factors that many are missing in part three of this series, “The Impact of US Policy on Emerging Markets.”

The fallout from the US-China trade war and other uncertainties continue to weigh on investor sentiment for emerging markets. But we don’t think the trade spat or some other issues, which we perceive to be short term in nature, should cloud investors’ long-term view of the asset class.

We continue to see evidence of some positive emerging market fundamentals that supports our medium- to long- term optimism. We would also note that while 2018 was no doubt a disappointing year for many investors, the prior two years saw very strong returns that outpaced developed markets overall.1

Here are three considerations we think investors are missing when it comes to emerging markets:

1. Crisis level valuations aren’t reflecting continued underlying resilience in emerging markets.

Geopolitical tensions between the United States and China have contributed to a decline in emerging-market stocks, driving valuations to near-crisis levels. However, for us that brings attractive potential opportunities, as we don’t see most emerging market economies in crisis situations. We think the pullback we’ve seen in emerging-market equities in recent months presents some attractive medium- to long-term opportunities.

While economic growth overall was perhaps not as strong as had been expected at the start of the year, in 2018 emerging markets still outpaced developed markets. This trend is expected to continue in 2019, with the International Monetary Fund (IMF) forecasting 2019 gross domestic product (GDP) growth in emerging markets at 4.5% versus 2% in developed markets.2

In addition, many investors often overlook the fact that emerging-markets debt-to-GDP levels are relatively low when compared with developed countries (see chart below).

We believe this solid growth outlook and the other positive fundamental factors we see in emerging markets indicate equities have the potential to rebound should some of the recent market uncertainly subside.