The emerging markets universe has changed dramatically over the past 35 years. Back then, Korea and Taiwan were not open to foreign investors, while the Chinese stock market did not exist.
Twenty-five years later, investors were mostly focused on Brazil, Russia, India and China (the BRICs).
Today, China, Korea and Taiwan make up two-thirds of the entire emerging markets index, while the rest have faded into the background.
Looking to the future, Capital Group’s Valeria Vine and Victor Kohn believe it will be shaped by six key themes, mentioned below.
Travel
The first theme is air travel, which apart from a post-Covid bounce-back, will experience secular growth driven by a rising Asian middle class, according to equity investment specialist Vine.
“Before Covid-19, in Asia every year, 150 million people flew for the first time and only about 20% of the world's population has ever been on an aeroplane,” she said.
“Travel is a secular growth theme and, as incomes rise, people tend to travel further for longer and also spend more.”
Even though the past two years have been challenging for travel due to the pandemic, she argued that there is a lot of pent-up demand: “We can already see this in countries that have opened up for tourism,” she said.
“For instance, despite the current hurricane season in the Caribbean, hotel occupancy rates are at a level much higher than you would normally observe in August and September, because travel restrictions to key destinations are generally being eased.”
Luxury
The next theme is luxury goods, which Vine said will continue to be driven by demand from Asia.
“In light of the recent heightened regulatory atmosphere, the impact on luxury goods is quite interesting because China wants an olive-shaped distribution structure with a significantly large middle class,” she explained.
“This can actually be quite good for consumption, because in China it is the middle class that accounts for more than 50% of luxury spending.”
Over the longer term, she predicted consumer tastes will shift from conspicuous branding to more spending on experiential luxury, such as wine and travel.
“This has been the direction of travel, with companies like LVMH diversifying into wine, travel and into other areas to benefit from the growth of the experience of luxury,” she added.
Safety nets
The insurance and healthcare sectors will also continue to grow, according to equity portfolio manager Victor Kohn, due to a lack of a safety net in many emerging markets.
He said: “If you go back to the experience after SARS in 2003, the demand for insurance hit an upwards inflexion point. It is likely Covid-19 will have a similar impact over the long term, both in life and health policies, and insurance policies.”
Similarly, he expected healthcare to receive more attention going forwards, especially innovative biotech and pharma.
“Although many of them are young and in the development stage, we take to a degree a basket approach looking for companies with strong management and a very robust research pipeline,” he added.
“We're also interested in organisations that enable drug discovery and development, for example, the contract research and clinical trials services.
“These companies allow managers to benefit from structural growth in the industry without having to bet on a binary outcome of a company being successful in their scientific development.”
Vine was also optimistic about Chinese biotech.
She said: “Over the next decade, China’s strategic policy initiatives in biomedicine could have broad ramifications for investments in the global pharmaceutical sector and in China itself.
“Based on our current growth projections, China is steadily closing the gap between it and the US market.”
She added: “When we first started to invest and see a lot of opportunities within healthcare, particularly in China, the sector was only about 2% of the MSCI EM index and now it is around 5%.”
Digital payments
The fourth theme Vine highlighted was the rise of digital payments, which was accelerated by the Covid-19 pandemic.
She said the shift in consumer behaviour towards digital means is reflected in the growing use of digital wallets.
“People who had never tried it before were suddenly very willing to give it a go,” she said. “With the steady return to pre-pandemic normality, it is unlikely that people who have formed these convenient habits will revert back to old practices.
“This is a long growth trend which has received a significant boost from the pandemic, with a lot of interesting companies coming to market during this time period as well.”
India
The fifth theme is the rise of India, which is at a much earlier stage of development than China, but is growing more rapidly.
“It has a young and very entrepreneurial population,” Kohn said. “The availability of smartphones and the internet is right now exploding in India.
“With an expanding middle class, the number of households with incomes greater than $30,000 is expected to double over the next decade.”
What makes India even more interesting are the macro and micro reforms taking place in the country. The progress being made is reflected in the World Bank's ranking of ‘ease of doing business’, which is published every year.
“In 2015, India was in number 142,” Kohn said. “By 2020, India had climbed to number 63. This metric of ease of doing business is a pretty good predictor of future economic performance.”
Frontier markets
The rise of the still underdeveloped frontier markets was the last theme highlighted by Capital Group.
Vine said an alternative approach to capturing opportunities arising from frontier markets was by investing “beyond the traditional boundaries of geographical domicile” and focusing instead on companies that are taking advantage of key secular trends in developing countries.
For example, she explained how Delivery Hero, although a German company, soon realised that the food delivery business worked better in areas with hotter climates and higher population densities than it did in western Europe.
“Another example could be a company like Network International, where it is domiciled in the UK, but it's a payment company with a focus on the Middle East,” she finished.