UBS House View Daily

Thought of the day

22.08 - Reexamining EM exuberance

EM equities have outpaced developed markets this year, with the MSCI Emerging Markets Index gaining 23.3% year-to-date, against an 11.6% rise in global equities.

But after five months of steady inflows, EPFR data shows investors withdrew USD 1.6bn from EM equity funds in the week to 16 August, the biggest weekly outflow since December. Even if this skepticism doesn’t last, we see a number of reasons why EM may not outperform for the remainder of the year:

  • Earnings momentum: Solid fundamentals helped lift EM corporate earnings by 10% in the first half. We expect this growth rate to moderate to 3–5% in the remainder of the year, partly reflecting a slowing of economic growth in China. In addition, valuations are now less attractive than earlier this year.
  • Policy normalization: Emerging markets have benefited from ample global liquidity. This tailwind is likely to diminish in the remainder of the year as the Federal Reserve starts shrinking its balance sheet and the European Central Bank prepares the market for a tapering of bond purchases.
  • Risk outlook: Rising geopolitical tensions over North Korea were reported as a big driver for outflows, with more than three quarters of last week’s fund outflows attributed to Asia ex-Japan funds (USD 1.2bn). Since Asian stocks account for 72% of the MSCI EM Index, emerging markets overall are vulnerable to temporary setbacks when tensions over North Korea flare up.

So while the outlook remains positive for emerging markets, a repeat of the first half outperformance looks unlikely. We are overweight global equities and neutral on EM stocks in our tactical asset allocation.

Chart of the day

EM equities have outperformed global stocks this year

(% change year-to-date)

Reexamining EM exuberance

Source: UBS, Thomson Reuters, as of 22 August 2017

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