asset allocation | july 28, 2020
Why Our Asset Allocation Committee Favors Emerging Markets Stocks
Our Asset Allocation Committee is overweight emerging markets stocks, as risks seem fairly priced in and potential tailwinds could favor the asset class.
Head of Global Multi-Asset
Having underperformed U.S. stocks over the past five years, emerging markets stocks have attractive valuations and could be supported by a weaker U.S. dollar.
Emerging markets stocks could also benefit from a vibrant tech sector and selective opportunities within financials, as well as potential liquidity from the Fed.
We are fairly close to neutral between stocks and bonds in our portfolios, but we do maintain an overweight position in emerging markets stocks.
There are risks associated with emerging markets stocks. Of course, the pandemic and also the lingering issue of trade—the effect of the pandemic on trade and the negotiations and all the geo-political aspect of trade. Those are risks, but we think they are more than fairly priced at the moment.
As of June, emerging markets stocks have underperformed U.S. stocks by over 50% on a cumulative return basis for the last five years and just 9% underperformance relative to the U.S. just year-to-date. So, we are entering extreme valuation territory, where emerging markets stocks have become quite attractive, all else being equal, by historical standards.
Also, a weaker U.S. dollar should favor emerging markets and as the U.S. has driven the rate differential with the rest of the world towards zero—as monetary policy in the U.S., like the rest of the world, is now at the zero-bound—there is no positive or very little positive interest rate differential with the rest of the world that could sustain a stronger U.S. dollar going forward.
Also, in favor of emerging markets, we think there are very good active management opportunities in the asset class at the moment. Emerging markets are not all linked to commodities as they used to be, at least not as much as they used to be. We now have a vibrant tech sector in emerging markets, and we have companies that are secular winners that have sold off with the asset class. And, also the financials sector can benefit from slightly higher interest rates and some net-interest margin revenue in their favor relative to non-emerging markets financials.
So active management and security selection in those markets can provide some real opportunities.
And lastly, just the usual flow of liquidity between the Fed and emerging markets hasn’t made its way yet. But historically it has and typically it does so that could—given the valuation buffer in favor of emerging markets—if we get a recovery phase in the pandemic in those markets and the Middle East and South America eventually recover from this, we could see that liquidity in a typical stock market recovery broadly make its way into emerging markets stocks.
This material is provided for informational purposes only and not intended to be investment advice or a recommendation to take any particular investment action.
The views contained herein are those of the authors as of July 2020 and are subject to change without notice; these views may differ from those of other T. Rowe Price associates.
This information is not intended to reflect a current or past recommendation concerning investments, investment strategies, or account types, advice of any kind, or a solicitation of an offer to buy or sell any securities or investment services. The opinions and commentary provided do not take into account the investment objectives or financial situation of any particular investor or class of investor. Please consider your own circumstances before making an investment decision.
Information contained herein is based upon sources we consider to be reliable; we do not, however, guarantee its accuracy.
Past performance cannot guarantee future results. All investments are subject to market risk, including the possible loss of principal. International investments can be riskier than U.S. investments due to the adverse effects of currency exchange rates, differences in market structure and liquidity, as well as specific country, regional, and economic developments. These risks are generally greater for investments in emerging markets. All charts and tables are shown for illustrative purposes only. Actual outcomes may differ materially from any forward-looking statements made.
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