Subscribe to MarketScape
Don’t Give Up on Emerging Markets
Emerging market equities have gone from the best performing region to the worst performing region in a few short months. Are they getting ready for a comeback or is it time to take a step back? Our Chief Investment Strategist EMEA & APAC, explores the issue.
Emerging market equities have gone from being the best performing region to the worst performing region in a few short months. Are they getting ready for a comeback or is it time to take a step back? Let's take a closer look. Emerging markets went from 2021's best performing region from mid-February, when it outpaced global markets by more than 7%, to the year's laggard by mid-April, with 6% underperformance. In effect, as emerging market equities started to slide, the rest of the world picked up speed.
What caused this reversal? The answer lies in Asia, since emerging Europe has posted positive returns since mid-February and Latin America has treaded water. Zooming in on Asia, the most important driver has been a Chinese equity market. That market went from being up as much as 20% to flat year to date. And since Chinese equities account for roughly 38% of the emerging market index, it has a big impact.
Two forces have come together to form 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 Public Bank of China, on preventing asset bubbles. They issued warnings on the rise of equity markets and home prices, and very modestly tightened policy by draining liquidity. And although the overall policy stance is close to neutral and 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 to drive stock prices. 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.
Although we don't expect the Chinese government will loosen its control over the business sector soon, we do expect the government to establish a new working relationship with business. 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 smaller void.