Emerging Markets Q1 2016 Recap: A Turn In Fortunes by Mark Mobius, Franklin Templeton Investments
The Templeton Emerging Markets Group has a wide investment universe to cover—tens of thousands of companies in markets on nearly every continent! While we are bottom-up investors, it helps to have some big-picture context. Here, I outline what’s happened in the emerging markets universe in the first three months of the year, including some key events, milestones and data points going back a bit further to offer some perspective. Overall, the first-quarter of the year (Q1) was marked by a turn in fortunes for emerging markets, which saw many investors return to the asset class after a challenging 2015.
In our opinion, the long-term investment case for emerging markets remains positive for a number of reasons. Economic growth rates in general continue to be faster than those of developed markets, emerging markets have much greater foreign reserves than developed markets and the debt-to-gross domestic product (GDP) ratios of emerging-market countries generally remain lower than those of developed markets. Even with major economies like Russia and Brazil in recession, emerging markets overall are expected to grow 4.3% in 2016, more than twice the rate of the 2.1% growth projected for developed markets.1 Though investors have been concerned with China’s growth rate slowing down, China remains one of the fastest-growing economies in the world.
Emerging-market countries account for nearly three-fourths of the world’s land mass and four-fifths of the world’s population,2 present considerable potential in terms of resources and demographics, and look to be in a strong position to potentially benefit from technological advances. It is also important to remember that emerging-market countries represent a large share of world economic activity and equity market capitalization. Many investors have been underweighted in emerging markets and in our view, this underweight position could represent a potential risk, especially as emerging markets appear undervalued versus developed markets based on price-to-earnings and price-to-book ratios.3
Emerging Markets First-Quarter Overview
Despite weakness at the start of 2016, emerging-market equities managed to close the first quarter of the year substantially higher, thanks to a rally in the latter half of the quarter. Market participants were reassured by the dovish tone struck by several major central banks around the world, especially the US Federal Reserve, which led to weakness in the US dollar and corresponding strength in most emerging-market currencies. Meanwhile, the European Central Bank announced greater-than-expected easing measures, cutting rates as well as extending its monthly asset-purchase program from €60 billion to €80 billion per month. Concerns regarding China’s GDP growth and renminbi devaluation also eased somewhat, while political developments in Brazil suggesting a potential change in policy raised investor confidence further. Commodity prices rallied in the latter part of the period, buoyed by hopes that measures to restrain production by major energy and metals producers would ease oversupply issues.
Emerging-market equities significantly outperformed their developed-market counterparts in the first quarter, with the MSCI Emerging Markets Index up 5.8% compared with a 0.2% loss for the MSCI World Index, both in US dollar terms.4 Among the various emerging-market regions, indexes tracking Latin America, Europe, the Middle East and Africa recorded double-digit gains, but emerging markets in Asia generally lagged, advancing only slightly.5
Brazil was one of the best-performing individual markets globally, driving gains in Latin America. The likelihood of President Dilma Rousseff’s impeachment raised investors’ hopes for a change in leadership well before Brazil’s general elections in 2018. Peru and Colombia were also among top-performing global markets, the former driven by currency strength and anticipation ahead of presidential elections in April, while the latter was supported by select economic indicators that showed positive momentum.
Most markets in Europe recorded double-digit returns, led by Turkey, where fourth-quarter economic data, including growth figures, surpassed market expectations. Russian equities also performed strongly, as the ruble saw its strongest quarter in four years and several economic indicators suggested an improving environment.
African markets were propelled higher by South Africa, boosted by the rise in metals prices and record-high appreciation in the rand. However, select African markets such as Nigeria and Egypt retreated over the quarter.
In Asia, Southeast Asian markets such as Thailand, Malaysia and Indonesia were consistently strong during the quarter, supported by continued foreign inflows. In addition, Thailand benefited from currency strength, positive stock-specific news and signs of improving consumer confidence and strengthening domestic activity, largely supported by government spending and tax incentives, while Malaysia and Indonesia were aided by easing monetary policy and stimulus measures. In contrast, China and India were the region’s weakest performers. Although Chinese equities gained substantially in March thanks to easing concerns regarding growth, capital flows and currency devaluation, they ended the quarter lower due to significant weakness earlier in the period. Similarly, notable strength for the Indian market in March was insufficient to offset declines in January and February.
Country Updates by the Numbers
For those who are interested in really diving into the numbers, I am including some country updates that show changes in key economic indicators and measures more recently and going back farther.
China’s economy grew 6.8% on a year-over-year basis (y-o-y) in the final quarter of 2015, slightly slower than the 6.9% y-o-y growth in the third quarter. For 2015 as a whole, GDP grew 6.9%, in line with market expectations. In comparison, the economy grew 7.3% in 2014. The government set an annual GDP growth target of 6.5% to 7.0% for 2016–2020. The consumer price index rose to 2.3% y-o-y in February, its highest level in nearly two years, from 1.8% y-o-y in January, largely due to higher food prices over the Lunar New Year holiday. Exports declined 25.4% y-o-y in February, an acceleration from the 11.2% y-o-y contraction in January, while imports decreased 13.8% y-o-y in February, an improvement from the 18.8% y-o-y contraction in January. As a result, the trade surplus nearly halved to US$32.6 billion in February, from US$63.3 billion in January. Growth in retail sales moderated to 10.2% y-o-y in the first two months of 2016, from 11.1% y-o-y in December. In comparison, retail sales grew 10.7% for 2015 as a whole. Industrial production rose 5.4% in the January to February period, compared to an increase of 5.9% y-o-y in December, while growth in fixed asset investment stabilized at 10.2% y-o-y for the same period, in line with growth recorded in 2015, on a rebound in property investment. Foreign exchange reserves declined by a relatively smaller US$28.6 billion to US$3.2 trillion in February, compared to a US$99.5 billion decline in January, a likely indication of some success at curbing capital outflows, and stability in the renminbi. International rating agency Moody’s changed its outlook on China’s government credit ratings to negative from stable, while affirming its Aa3 rating.6
GDP growth in South Korea accelerated to 3.0% y-o-y in the fourth quarter of 2015, from 2.7% y-o-y in the third quarter as growth in private consumption and government expenditure strengthened. For the year, the economy grew 2.6%, compared to 3.3% in 2014. The Bank of Korea maintained its benchmark interest rate at a record low level of 1.5% during the quarter. The consumer price index rose to 1.3% y-o-y in February, from 0.8% y-o-y in January, largely due to