Skip to content

Investment Strategy Brief: Emerging Markets Slip

Emerging market equities have delivered whiplash to investors this year, and are now underperforming. We explain why, and what's next.

Gold ball on mesh

View PDF

Emerging market (EM) equities have gone from the best performing region to the worst performing region in a few short months. Are they poised for a comeback or is it time to take a step back? We remain constructive on EM equities. Recent Chinese policy actions have weighed on EM returns, but we are optimistic that they will not reverse China’s strong economic growth trajectory.

A Quick Reversal. Emerging markets went from 2021’s best-performing region through mid-February, when it outpaced global markets by more than 7%, to the year’s laggard through late April, with roughly 5% underperformance. In effect, as emerging market equities started to slide, the rest of the world picked up speed.

It is tempting to look at the region’s continuing battle with COVID-19 as the underlying reason. India in particular is struggling, having just recorded the highest virus case count for any country during the pandemic. However, although negative COVID-19 headlines may have dampened investor sentiment somewhat, it is not the reason for EM equities’ performance reversal. So what is? 

Zooming in on China. Since emerging Europe has posted positive returns since mid-February and Latin America has treaded water, the answer lies in Asia. In fact, looking at Asia, it is clear the most important driver has been the Chinese equity market. That market went from being up almost 20% to flat year-to-date. And since Chinese equities account for 37.6% of the emerging markets index (see below exhibit), it has a big impact.

Chart: China has brought down EM

Challenges for Chinese Equities. Two forces have come together to create a formidable headwind for Chinese equities: government policies to head off potential asset bubbles and increased government control over the business sector.

The strong economic recovery from the depths of the pandemic has refocused the attention of Chinese policymakers, in particular the People’s Bank of China, on preventing asset bubbles. They issued warnings on the rise in equity markets and home prices and very modestly tightened policy by draining liquidity. And although the overall policy stance is closer to neutral than tight, investors reacted negatively.

Further, China’s government is increasing control of the business sector, in particular high-flying technology companies. The government wants to ensure its strategic priorities take precedence over short-term profits. Headline IPOs have been delayed, regulatory oversight has been intensified and investment plans are scrutinized closely, all in the name of ensuring that the businesses are serving China’s long-term goals.

Market Implications: Careful management, cautious optimism. Although we don’t expect the Chinese government will loosen its control over the business sector, we do expect the government to establish a new working relationship with business that will allow tensions to dissipate. Also, we don’t think the government will tighten fiscal and monetary policy enough to hold back the economic recovery. Instead, we think the Chinese government is carefully managing the risk of an overheating economy. As a result, we remain cautiously optimistic about the prospects of the Chinese equity market and by extension the emerging market equity region, in which we hold a small overweight in our tactical asset allocation.


© 2021 Northern Trust Corporation. Head Office: 50 South La Salle Street, Chicago, Illinois 60603 U.S.A.

IMPORTANT INFORMATION. For Asia-Pacific markets, this information is directed to institutional, professional and wholesale clients or investors only and should not be relied upon by retail clients or investors. The information is not intended for distribution or use by any person in any jurisdiction where such distribution would be contrary to local law or regulation. Northern Trust and its affiliates may have positions in and may effect transactions in the markets, contracts and related investments different than described in this information. This information is obtained from sources believed to be reliable, and its accuracy and completeness are not guaranteed. Information does not constitute a recommendation of any investment strategy, is not intended as investment advice and does not take into account all the circumstances of each investor. Opinions and forecasts discussed are those of the author, do not necessarily reflect the views of Northern Trust and are subject to change without notice.

This report is provided for informational purposes only and is not intended to be, and should not be construed as, an offer, solicitation or recommendation with respect to any transaction and should not be treated as legal advice, investment advice or tax advice. Recipients should not rely upon this information as a substitute for obtaining specific legal or tax advice from their own professional legal or tax advisors. Information is subject to change based on market or other conditions.

Past performance is no guarantee of future results. Performance returns and the principal value of an investment will fluctuate. Performance returns contained herein are subject to revision by Northern Trust. Comparative indices shown are provided as an indication of the performance of a particular segment of the capital markets and/or alternative strategies in general. Index performance returns do not reflect any management fees, transaction costs or expenses. It is not possible to invest directly in any index. Gross performance returns contained herein include reinvestment of dividends and other earnings, transaction costs, and all fees and expenses other than investment management fees, unless indicated otherwise.

Northern Trust Asset Management is composed of Northern Trust Investments, Inc. Northern Trust Global Investments Limited, Northern Trust Fund Managers (Ireland) Limited, Northern Trust Global Investments Japan, K.K, NT Global Advisors Inc., 50 South Capital Advisors, LLC, Belvedere Advisors LLC and investment personnel of The Northern Trust Company of Hong Kong Limited and The Northern Trust Company.

Wouter Sturkenboom, CFA

Chief Investment Strategist, EMEA and APAC
Wouter Sturkenboom, CFA, CAIA, is chief investment strategist for EMEA and APAC at Northern Trust. He is also a member of the Interest Rate Strategy Committee and Investment Policy Committee.