Where next for Asian and emerging markets?
We look at what could be next for Asian and emerging markets and share 3 fund ideas with long-term performance potential.
This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.
18 November 2021
All information is correct as at 30 September 2021 unless otherwise stated.
Asian and emerging markets were once stock market darlings. Rampant economic growth and industrialisation appealed to investors wanting to take part in this rapid development and gain a slice of the action.
Yet lots of investors have dismissed these markets in recent years. Since the 2008 global financial crisis, many have preferred the potential for glistening gains from markets like the US.
At first glance, investors have been right to take this view. The US stock market has seen an exceptional run over the past decade, helped by its dominant tech sector. Past performance isn't a guide to the future though.
Asia is also home to major tech and ecommerce companies that have so far proven highly successful, albeit with some bumps along the road. Names like Alibaba, Tencent, Samsung and TSMC spring to mind. But its stock market has a lower allocation to tech than the US.
It’s also more weighted to so-called ‘old economy’ or ‘value’ sectors, like financials, basic materials, and energy. These areas were strong when some emerging economies were at an earlier stage of their development. But they’ve been broadly out of favour for much of the past decade.
2021 has been a different story though, with resources-related areas, including materials, energy, and utilities, performing more strongly in emerging markets. What’s caused this rotation in the market? China’s regulatory crackdowns have had some say in this.
China has supported the growth of digitally focused companies over the years. But there comes a point where the authorities are less comfortable with businesses of such scale wielding their power.
The country’s internet platforms felt the brunt of increased regulation last year. Though some would say this was needed to stem anti-competitive practices and protect consumers. This year, the crackdown was seen in the education sector. All companies offering private tutoring services have had to register as non-profit institutions and can no longer accept foreign investment. This has come as a blow to China’s private education companies, which saw swift share price falls.
There’s reason behind this action though. After-school tutoring was becoming a normal part of many children’s schedules. These efforts were to help relieve the economic and mental burdens on students and their families.
Crackdowns like this could lead to the state having more control over certain industries, including technology, healthcare, and property. This is something to look out for. It could impact how profitable companies could be, and ultimately the potential for share price gains.
That said, lots of these companies, including some of the big tech giants, have good business models and are still growing strongly, even after adhering to regulations. China still recognises the importance of these companies, ecommerce and the digital economy.
More broadly, there is some good in what’s happening. China has accelerated its efforts to promote social stability and equality and is looking at whether consumer and employee rights are being overlooked in favour of corporate profits.
In some ways, China’s regulators are simply behind the curve and now playing catch up with regulation implemented by the world’s more mature economies. Regulation isn’t new to big business, so it’s also about assessing how well companies deal with it.
Chinese authorities still want to promote innovation and entrepreneurship. But they want to see healthy competition too, and make sure the next generation of innovators has space to flourish and add to China’s economic prosperity.
More than technology
Investors have become increasingly focused on technology, but it’s not all about the internet and ecommerce platforms. Across Asian and emerging markets, the proportion of lower level education and older people using the internet has already increased significantly. Lots of this was down to the pandemic accelerating the use of ecommerce and stay-at-home tech.
It’s still an important area, but there’s a need for these markets to find growth drivers other than the internet. And in countries like China, income distribution is increasingly uneven, while an aging population puts pressure on the pension and welfare system, so there’s pressure to find more sustainable forms of growth.
We’ve previously seen a change in how different sectors make up Asian and emerging markets, with the balance shifting from older to newer economy sectors. There will be change in the future too. Lots of these economies have already been through a period of rapid development and might look to focus on more sustainable drivers of growth.
For example, while parts of the world have become more insulated, some Asian markets have strengthened their supply chains, and continue to focus on consumption driven, high-quality growth.
Even the consumer segment of the market is evolving though. Western brands have historically done well from selling their products to increasingly wealthy Asian consumers, while the east has been the low-cost manufacturer of the world.
But as these economies become wealthier and a younger generation of consumers comes through the ranks, local players have been taking market share and gradually improving their knowledge of consumer tastes and demands. This transition is likely to form part of Asia’s next stage of development.
If anything, the latest round of intervention and change is a reminder of the political and regulatory implications that exist across all emerging markets. Investors should always be prepared when investing in these potentially high-growth, but higher-risk, markets.
And while a spotlight has been shone on China’s tightening regulatory crackdown this year, it’s not new. It comes as policymakers seek to reinforce a strategy that’s more focused on sustainable development. This means a shift away from targeting high levels of growth in the economy, towards a more sustainable growth plan that considers societal as well as broader risks.
The scale of China and the way it’s developing has raised some questions about how investors should think about it in their portfolios. Some commentators think any weighting to China in a portfolio should be considered on its own, rather than form part of a broader Asian or emerging markets fund.
There’s no doubt China is a massive player within the global economy and arguably should form at least part of any portfolio focused on long-term growth. But sometimes its dominance can overshadow others.
India is another huge economy, with a population of almost 1.4bn. It’s home to good-quality businesses, some of which are family-owned and have high governance standards. Of course, it has challenges of its own. But recently its stock market has performed better than China. As always, past performance isn’t a guide to future returns.
Across the board Asian and emerging markets are diverse and full of opportunity.
How to invest?
We think Asian and emerging economies offer significant long-term growth potential.
They're home to hundreds of companies that don't just stand still – they’re prepared to work hard, continue to evolve, and ready to compete with their western counterparts. There will certainly be challenges along the way, though growing wealth, changing consumer habits, and quick adoption of technology presents lots of investment opportunities.
Tracker funds can be a great way to get diverse and low-cost access to a certain market. They aim to track the performance of a stock market index.
Active funds are another way to invest. They're run by a professional investment manager who will try to beat a certain index, instead of just tracking it. They decide which companies, countries and sectors to invest in, depending on where they believe the best opportunities are. This can increase risk though – while there’s potential for the fund to perform better than the index over the long run, the reverse is also true.
Asian and emerging markets funds could be used to diversify a long-term, global investment portfolio. These markets are higher risk as they're at an earlier stage of development. So these funds should only be considered for a portfolio with a longer investment outlook that can accept periods of high volatility.
This article isn’t personal advice or a recommendation to invest. All investments can fall as well as rise in value, so you could get back less than you invest. If you’re not sure an investment is right for you, ask for financial advice.
Investing in these funds isn’t right for everyone. Investors should only invest if the fund’s objectives are aligned with their own, and there’s a specific need for the type of investment being made. Investors should understand the specific risks of a fund before they invest, and make sure any new investment forms part of a diversified portfolio.
iShares Emerging Markets Equity Index
This fund invests in a broad spread of around 1,600 companies based across emerging countries, including China, India, Brazil, South Africa, Taiwan and Russia. It also invests in lots of different sectors, like technology, financials, consumer services and materials. It's a convenient way to invest in the emerging markets. While it’s mostly invested in large companies, it can invest in smaller companies too which adds risk.
JPM Emerging Markets
This fund invests across the emerging markets, including China, India, Taiwan and Brazil. The managers mainly invest in large companies, but also some medium-sized companies with greater growth prospects. They currently mainly focus on three core areas: the technology, financials and consumer sectors. This can change over time depending on where they find what they believe to be the best opportunities.
FSSA Asia Focus
A range of Asian economies are included in this fund, such as emerging Asian countries, like China, India and Taiwan, as well as more developed Asian economies, including Singapore and Hong Kong. The fund's focused on larger companies in consumer-related areas, as well as some medium-sized companies with strong growth potential. The fund also invests in sectors like financials, technology and healthcare.
Explore our Investment Times autumn 2021 edition for more articles like this.
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