EM Equities: Is the Bear Market Closer to the End?
A number of the headwinds facing EMs are already reflected in company valuations—and some are even beginning to fade, suggesting that EM equities may be close to a turning point.
Following the COVID-19 liquidity-fueled rebound of 2020, emerging markets (EM) equities peaked in February 2021 before entering what has now become the longest-running bear market in the index’s post-1995 history. This short paper aims to explain the factors that have worked against EM equities and highlight a number of signals that we as investors are looking for to confirm a sustainable turning point for the asset class.
Figure 1: EM Equities Remain in a Bear Market
Source: Barings; MSCI; Factset. As of September 30, 2022.
Challenges Facing EM Equities
The peak in the MSCI EM Index in February 2021 coincided with the beginning of a withdrawal of some of the stimulus injected into EM economies during 2020. For instance, Chinese policymakers, encouraged by the swift recovery in the economy, and mindful of the potential inflationary threat, moved quickly to remove excess liquidity from the local money market and pulled back on fiscal spending. Other EM countries such as Brazil followed shortly after. Investors soon began to interpret this policy pivot as a headwind for economic activity and corporate earnings progression across EM, which has indeed proved to be correct.
Another factor that impacted investor sentiment in EMs was a deterioration in the outlook for the largest EM market, Chinese equities. This began with increased regulatory intervention on some of the well-owned secular growth sectors such as internet platforms, private education, and, to a lesser extent, health care. Additional China-specific challenges, which have appeared over the past two years, include trade tensions with the U.S., de-listing risks for Chinese ADR stocks, a residential property market downturn due to policy over-tightening, and more recently, a reluctance to abandon the zero tolerance COVID-19 policy.