By Philip Ehrmann, a fund manager at Gartmore Investments Given that emerging markets are genera...
By Philip Ehrmann, a fund manager at Gartmore Investments
Given that emerging markets are generally associated with higher risk, it may come as a surprise that they have strongly outperformed their developed peers over the past year, despite changes in perception of the health of the global economy.
Historically, emerging markets have led an upturn in the global economic cycle. This can be seen as one the chief reasons for their outperformance.
Currently, there is a growing debate as to the pace of global activity. Uncertainty as to the rate and robustness of recovery has seen emerging markets pull-back over the past quarter.
Although there are signs a slowing in the rate of economic expansion in the US is beginning to have an adverse effect on Latin America's exporters, there are few signs Asia's economies are slackening their rate of recovery. In fact, there has been a shifting of gears as export-led growth has broadened out to fully-fledged domestic expansion.
South Korea is a good example, maintaining its vigour as re-capitalised domestic banks see domestic demand for loans grow.
Following the corporate reforms of the past few years, there has been a structural downwards shift in the cost of borrowing and a focus away from the Chaebols towards consumers and private enterprises. This is likely to support strong growth over the next few years.
Significantly, emerging markets have for some time been a destination for global firms seeking a low-cost production base. The reduced cost of factors such as labour and land has been the rationale behind decisions to outsource production and this growing trend continues to support the long-term outlook for emerging markets as corporations in the developed world seek to recapture profitability in areas that have in-built deflationary pressures.
Other factors influencing emerging markets include the negative impact of US corporate scandals and accounting malpractice. This has severely undermined investor sentiment, creating considerable turbulence in global equity markets.
However, as these issues are overcome, and much is already in the price of securities, we should see a greater propensity among investors to take on additional risk.
It is a matter of some irony that emerging markets, and the companies that populate them, have been labouring under the cloud of poor corporate governance for many years. In contrast to their developed counterparts, there has been considerable improvement in this area as policymakers and managers recognised higher levels of financial transparency were necessary to attract foreign investors.
One of the overriding influences governing the prospects for emerging markets will be the outlook for the global economy. These markets are positioned to deliver superior earnings growth compared to their developed peers, facilitated by the twin pressures exerted by outsourcing and deflation that will continue to squeeze profits in advanced economies.
Taken together, these factors should enable emerging markets to remain at the forefront of the global economic recovery and maintain their relative outperformance of developed markets.
Stimulative economic conditions worldwide.
Underlying domestic economic strength.
Improved corporate governance standards.
Downgrades in global growth expectations.
Sustained low appetite for risk.
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