Seven Reasons to Consider Emerging Markets
Summary
Emerging markets offer more investment opportunities than developed economies in terms of economic growth potential. We believe there are seven reasons for this:- Higher personal savings rates: Higher rates enable self-financing of capital expenditures to enhance economic productivity and encourage private consumption expansion in the future.
- Demographic opportunities: A higher youth dependency ratio, a lower elderly dependency ratio and a higher working-age ratio predict significant demographic dividends.
- Undervalued currencies: Currencies that are undervalued increase the competitiveness and profitability of emerging market products and companies, while also allowing future currency appreciation gains from investing in emerging market assets.
- Healthier public-sector balance sheets: A low government debt-to-gross-domestic-product (GDP) ratio allows for the use of additional instruments to boost economic growth, which is in sharp contrast to the current situation in developed market economies.
- Enhanced sovereign credit quality:Increased transparency and significantly lower country risk have led to sovereign debt ratings upgrades, many to investment-grade status.
- Growth potential in equity markets: Equity market capitalization-to-GDP ratios have been lower than in developed markets, despite the significant outperformance of emerging markets during the last decade.
- Underrepresented equity markets in global portfolios: Underdeveloped equity markets in emerging economies have been significantly underweight in global investors' portfolios.
Slow growth and heightened uncertainties in the developed world may reduce the appetite for emerging market investments, although we believe this trend will be short-lived. In the long run, strong economic fundamentals and underrepresentation in global financial markets should attract investors to the asset class.
Risks: Investing in international markets may involve additional risks, such as social and political instability, market illiquidity, exchange-rate fluctuations, a high level of volatility and limited regulation. In addition, single-country and sector funds may be subject to a higher degree of market risk than diversified funds because of concentration in a specific industry, sector or geographic location. Investing in small- and mid-size companies is more risky than investing in large companies as they may be more volatile and less liquid than large companies. Emerging Markets Risk — The risks of foreign investments are typically greater in less developed countries, which are sometimes referred to as emerging markets. For example, political and economic structures in these countries may be changing rapidly, which can cause instability and greater risk of loss. These countries are also more likely to experience higher levels of inflation, deflation or currency devaluation, which could hurt their economies and securities markets. For these and other reasons, investments in emerging markets are often considered speculative.