Emerging Markets Outlook

Room to run

Political turmoil? An end to China's big stimulus program? U.S. interest rate hikes? Emerging markets face uncertainty, but they've been rallying nonetheless. But do they have anything left? With relatively attractive valuations, and growing earnings and dividends as tailwinds, we think so.

After Solid Rebound, There May Be Room to Run in Emerging Markets

Valuations Appear Relatively Attractive Amid Earnings Turnaround

Sources: FactSet; International Monetary Fund, World Economic Outlook Database, April 2017; MSCI; RIMES. Show MoreRelative Valuation compares the forward 12-month price-earnings ratio of the MSCI World and MSCI Emerging Markets indexes as of 5/31/17. Estimated EPS Growth is as of 5/14/17. Total Return is from 1/21/16-5/31/17. GDP Growth is the estimated 2017 GDP Growth, as reported by the IMF. Show Less

Emerging market equities have surged more than 50% since a trough in early 2016, supported by a sustained stimulus program in China. But after such a strong run, has EM peaked? Don't count on it. Even after the recent rally, EM has only averaged a 4.5% return over the last five years, compared to 15.4% in the U.S. Overall valuations also remain attractive compared to developed markets. For instance, Brazil and China look like relative bargains, trading for less than 13 times projected earnings over the next year. Industries that could thrive in this environment include innovative Chinese internet service providers benefiting from rapid growth in mobile commerce, Asian electronics-component manufacturers and privately run Indian banks.

Trading Places: India Surpasses China as Fastest Grower

GDP Growth Rates for India and China

Source: International Monetary Fund, World Economic Outlook Database, April 2017

Prospects look bright for India, the world's fastest growing economy. Prime Minister Narendra Modi is implementing reforms to ease the cost of doing business, modernizing India's infrastructure and opening the country to more foreign direct investment. The government is also backing technological innovations in the banking system. Mobile banking transactions, fueled by the proliferation of mobile phones and growing internet usage rates, are skyrocketing. India's private banks, including HDFC Bank and Kotak Mahindra, should be among the beneficiaries of a growing economy and mobile banking. Furthermore, India's young population and move to a more digital culture is attracting leading American and Chinese technology companies, such as Amazon and Alibaba, that are expanding into the country or taking equity stakes in Indian startups.

"The country I am most excited about is India, where Prime Minister Narendra Modi is driving through numerous reforms, supporting technological innovations, tackling black money and introducing deep anticorruption efforts that will drive long-term economic momentum. Recent success for his party in India's state elections demonstrates broad support for these reform policies and that is also encouraging."

Chris Thomsen
Portfolio Manager

In Emerging Markets, Dividends Are Growing in Importance

Relatively Low Payout Ratios Leave Room for Further Potential Dividend Growth

Sources: MSCI, RIMES as of 5/31/17. Annualized dividend growth is from 12/31/03- to 5/31/17.

Got dividends? When considering reasons to invest in emerging markets, dividends may not be near the top of the list - but perhaps they should be. Since 2003, emerging markets have grown dividends by an average of 7.6% per year, faster than in non-U.S. developed markets and comparable to the U.S. Relative to the rest of the world, emerging markets payout ratios are low, so there may be more room for growth as earnings rise and cash flows improve. When seeking income potential, long-term investors should cast a wider net outside of the U.S. and focus on companies with reputations as dividend payers. Companies such as Taiwan Semiconductor and African grocer Shoprite Holdings have consistently increased their dividend payouts over the years.

"Dividend income is every bit as important to long-term returns in emerging markets as it is in developed countries. Over the years, we have found that emerging market companies that pay dividends quite often turn out to be superior investments. As these companies mature, we expect dividends to play a more prominent role in total returns."

Shaw Wagener
Portfolio Manager

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