Long Time Horizon Beats Market Timing with Emerging Markets Stocks


July 10, 2017 [emerging Markets, performance, GDP, Developed markets]
Charles Roth

Emerging markets stocks have soared since their January 2016 low, prompting questions about the outlook for both those who missed the rally and those who didn’t but are thinking about cashing out. Both ought to take a longer-term perspective.

Jin Mao Tower, Shanghai, China

Did you miss the rally in emerging markets stocks? Since they started rebounding in January 2016, the MSCI Emerging Markets Index’s total return to July 10, 2017, hit 53%, easily outpacing the S&P 500 Index’s 34% and MSCI EAFE Index’s 31% cumulative returns, respectively. So, is it too late to jump in now, if you haven’t already? Or if you have, is it time to cash out after the strong run?

Thornburg’s Charlie Wilson argues in a new whitepaper that the answers to the last two questions are both no, in part given the structural tailwinds supporting emerging market stocks, their long-run return performance and the diversification benefit deriving from the timing of their outperformance.

The structural tailwinds are summed up in Figure 1, which illustrates the global distributions of demographics, gross domestic product (GDP) and stock market capitalization. “Developing economies represent about 84% of the global population and are expected to generate nearly half of global gross GDP by the end of the decade,” Wilson notes. Yet at the same time, their combined stock market capitalization is less than a fifth of the global total. “This will very likely grow over time,” he adds.


Figure 1 | Distribution of Population, GDP, Market Capitalization

Source: World Bank, as of 12/31/15; International Monetary Fund (IMF), Bloomberg, as of 6/27/17.


“Over time” is an important distinction, given the periodic, sometimes sharp swings in emerging market stocks. For those who hang on, though, the returns have been great, not just lately, but over the long run. The MSCI EM Index’s annualized return since its 1988 inception amounts to 11%, modestly outperforming the S&P 500 Index’s 10% return in the period, and nearly double the MSCI EAFE Index’s 6% annualized gain, which are all depicted below.


Figure 2 | Attractive Opportunities Providing Attractive Long-Term Returns (Annualized Returns, 12/31/87–3/31/17)

Source: Bloomberg. Past performance does not guarantee future results.


Interestingly, though, that emerging market outperformance has tended to come “in different periods than developed market equities, smoothing the volatility of overall equity returns in a portfolio,” Wilson notes, providing “real portfolio diversification benefits,” as seen in Figure 3.


Figure 3 | Emerging Market Exposure Enhances Diversification (Annualized Returns for Different Periods)

Source: Morningstar.


There’s also reason to believe that accelerating economic growth in emerging markets will support developing country equity performance, with its global GDP share projected to go up as its GDP growth differential over developed markets resumed its upward trend starting a couple years ago. That “should be correlated with emerging market earnings improvement, if past experience is any guide,” Wilson points out.


Figure 4 | Emerging Markets GDP Growth Outpacing Developed Market Growth (1988–2022)

Source: IMF.


The current bull run in emerging market stocks may well still have legs. But it’s really the longer-term structural, performance and diversification characteristics that should excite investors, whether or not they have participated in the latest rally.

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