In a presentation for our sister publication Portfolio Adviser’s Emerging Markets conference this week, Barrs discussed the many elephant(s) in the room for EM equity investors. A key one being the fear that a stronger-than-anticipated US economy threatened to cut short celebrations over last year’s market rally.
Barrs believes the impact of these headwinds will not play out in the same way it did, even a few years ago, when emerging markets (EM) were in a much more unstable place.
For starters, he doesn’t think the Federal Reserve’s tapering efforts will hurt EM equities as badly as they have in the past because of improving growth and fundamentals in the asset class.
He said: “A lot of people have come to the conclusion that as the Fed hikes rates, EM will suffer, but in our eyes, that is because they are using 2013 as their reference point. What they are forgetting is that in 2013, EM was in a very negative place.
“If you go back over the last 30 years and look at rate normalisation cycles in the US, EM has outperformed developed markets in three out of four cycles. Why is that? Because that is happening as growth improves in the US.
So, if we see a continued improvement of growth within the US, that means the Fed starts to move higher. I think it is also fair to assume that EM is getting the residual benefit of growth and earnings improving. That backdrop could be relatively good from an equity perspective.”
Traditionally, a stronger dollar has also been catastrophic for EM equities. But today’s dollar strength will not necessarily mirror the currency’s hyper bull market under Ronald Reagan in the 1980s, said Barrs.
“How important is FX as an equity investor in EM? Over the short-term, it is absolutely critical. We have seen over the last couple of years FX has been one of the big reasons EM has suffered. But over the longer-period, we know it is earnings and corporate fundamentals that really drive the asset class.”
