It's clear that emerging markets have been able to withstand the greatest economic crisis since the Great Depression. As the first quarter of the year comes to an end there is no doubt that 2010 will continue to be a challenging year for global markets.

Unlike the US and other developed countries, consumers in emerging economies did not take on the large amount of debt and financial institutions in emerging markets did not have exposure to toxic assets such as sub-prime mortgages.

Emerging markets also have been shielded from the problems of the developed world by years of conservative fiscal policy resulting in higher savings rates, increases in business and infrastructure investment, strong domestic economies, and job creation.

Another key point is that growth in emerging markets has become less reliant on demand from developed countries and being driven by the emergent consumer classes. For instance, consumers in Brazil and India have been the key to lifting their respective economies.

One of the misconceptions about the asset class is that emerging market countries are reliant on exports to developed markets for growth. In reality, however, the rise of a middle class in emerging market countries is fueling domestic consumption.  Moreover, emerging market economies have become much more economically disciplined and that is raising the income level of their populations. When it comes to domestic consumption, consumers in emerging markets such as China, India and Brazil are just getting started.

Consumerism and exports

As China is poised to overtake Japan as the world’s second-largest economy, the country’s swift economic rise has not been without costs. China’s emphasis on exports — which most experts believe cannot be sustained indefinitely — is causing both economic and social dislocations. As a result, China’s leaders are committed to placing the country on a new footing by moving towards a consumer-oriented economy where domestic consumption will be the engine for future growth.

Some of the main by-products will be significant improvement in the country’s standard of living (ranging from income to healthcare to education), import-led reductions in China’s huge current account surplus, which has fostered trade friction and heightened risks of protectionist measures by trading partners, and far less vulnerability to fluctuations in global demand for the country’s products. 

For the rest of the world, a consumer-based economy in China holds positive implications for many companies abroad as they view Chinese demand as their ticket to growth and profits in a post-recession world.

Led by its manufacturing and mining sectors and public spending, India’s surging 2009 economy expanded at its fastest pace in more than a year. Stimulus measures and lower interest rates have driven demand for automobiles, steel, and cement.

On the other hand, emerging market countries are also creating growth opportunities for themselves by exporting their goods not only to developed counties but also to other emerging economies. For example, Taiwan-based Mediatek, largest seller of handset phones, has seen its business grow because of increased demand in other emerging market countries, instead of the US and Europe. In South Korea, 70% of exports are to other emerging market countries.

Still room for growth
 

Over the past 10 years, the emerging market asset class has been more dynamic and faster growing than the developed world. Looking ahead, we believe there are certainly more growth prospects for investors who are prepared to accept the risks and invest for the long term.
Maintaining growth and stability is certainly a top priority for emerging market countries.

Compared with when emerging markets portfolios first appeared some 20 years ago, the asset class is also better regulated and offers more transparency due to improvements in the legal and financial systems. Many economies such as China, Russia, and Brazil have also built up their foreign exchange reserves, which allows them to withstand market turbulence from developed economies.

Another key point is that stocks in emerging markets often have had attractive valuations relative to developed markets. According to MSCI Barra, the forward price-to-earnings ratio for the MSCI EM Index has averaged 11.8 since June 1994, compared with 17.8 for the MSCI World Index.
In emerging markets, we are focusing more on companies in the financial sector.

Financial institutions in emerging markets have been a good source for growth because they were not as impacted as those in developed markets and did not have exposure to toxic assets such as sub-prime mortgages. In addition, consumers in emerging economies did not take on the huge amount of debt compared with consumers in developed markets.

We have also found growth opportunities in the consumer discretionary sector. As purchasing power improves in emerging market countries, consumers are spending more, either on first-time purchases or on upgrades.

Governments around the globe have been tapping reserves and implementing stimulus packages. At this point we believe that most emerging countries are economically sound, so weaning themselves off  their stimulus packages will not have much of an impact. The majority of emerging market countries entered the global economic crisis with far healthier economies than developed world economies, allowing them to spend more money as needed.

On the other hand, the consumer debt levels of many emerging market countries have been lower than that of developed countries. And since emerging market banks have been in much better shape than Western banks throughout the global financial crisis, they have been able to continue to grow their loan portfolios.

Over the next five years, emerging market economies will be driven not only by export demand from the rest of the world, but also by growth in domestic consumption, including healthcare, technology, infrastructure, and finance. This will create opportunities for companies doing business in these sectors, among others.
 

Accelerating EM growth

In closing, it’s clear that emerging markets have been able to withstand the greatest economic crisis since the Great Depression.  As the first quarter of the year comes to an end there is no doubt that 2010 will continue to be a challenging year for global markets. 

However, the emerging markets asset class will continue to offer above-average earnings growth over the short and long term. The global economy will start growing again in 2010 but the emerging markets will accelerate at a much faster rate than the US and Europe, a trend that we believe will continue over the next five years.