China was a leader in the region, buoyed by the government’s support for the economy to spur domestic demand and revive the property sector
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Domestic demand in focus
Emerging Market Insights
Three things we ’ For illustrative purposes only and not reflective of the performance or portfolio composition of any Franklin Templeton fund. re thinking about today
- China’s reopening and impact on energy prices. China’s economic reopening is proceeding swiftly, despite the spike in COVID-19 cases in early January. Investor attention has recently switched to the reopening’s impact on energy prices. In contrast to Europe, China is experiencing a bitterly cold winter, with average temperatures 15ºF below average for the month of January.1 This is increasing demand for natural gas, the majority of which China imports from overseas. Liquid natural gas (LNG) prices in Asia and Europe have not yet reacted to the frigid weather in China, as Europe is experiencing temperatures on average 15ºF above average over the same period.2 However, if this were to change, LNG prices could rise, reigniting global inflation concerns and limiting China’s room for fiscal maneuvering given gas subsidies provided to households.
- Markets pivot toward growth. January witnessed a dramatic shift in the performance of growth stocks, with the MSCI Emerging Markets Growth Index posting double-digit returns.3 Value stocks witnessed positive performance but lagged behind. This is a reversal of the 2022 performance trend, wherein value stocks performed better than growth stocks as rising interest rates undermined the outlook for the latter. Looking ahead, the likelihood of a continuation of this January’s trend will likely be dependent on the direction of interest rates and the US dollar, among other factors.
- Emerging markets (EM) earnings outlook. 2023 Consensus expectations are for a recovery in emerging market earnings in , following a sharp decline last year. China’s reopening and economic recovery is expected to drive earnings, particularly in the financials and consumer discretionary sectors. High interest rates typically benefit banks, and a recovery in consumer technology business prospects looks likely to us, including ecommerce.
Outlook
The prospect of weaker external demand has led policymakers in EMs turn to domestic demand, in particular consumption, to shore up economic growth. For example, South Korea plans to offer large tax breaks to semiconductor and other technology companies investing within the country. The country is also planning to make investing in the local stock market easier for foreign investors and is providing subsidies for citizens to cope with increasing prices. Thailand has also approved a budget to boost tourism in the country, one of its biggest growth drivers. The longterm structural tailwind of EM consumption growth via expansion of the middle class and premiumization of buying patterns is now more significant than ever, in our view. The Chinese consumer opportunity is under the spotlight following the country’s economic reopening. Some US$2.6 trillion in Chinese bank deposits were amassed in 2022 — and middleclass households are looking to draw down these saving to spend on experiences, products and services. This is driving the premiumization trend opportunity at the heart of the EM consumption story we see.
Other opportunities that look to boost EM growth besides Chinese
consumption abound. For example, a surge in initial public
offerings in the Middle East should help drive consumption via a trickle-down wealth effect. We believe these uncorrelated drivers of returns in EM economies present an investment opportunity which our team’s deep experience, local expertise and a bottom- up investment approach are poised to uncover.
While this is a time of uncertainty, we continue to stress the importance of taking a long-term view and undertaking due
diligence in making investment decisions. With over 30 years of experience in EMs, we are no strangers to market uncertainties and are experienced in investing through highly volatile periods, which we believe has helped us remain calm in the current market environment. We recognize that this period will pass, with history having shown us that markets should eventually stabilize and recover.
Emerging markets key trends and developments
Global equities began the year on a strong footing and nudged higher in January, with EM equities outpacing their developed market counterparts. Cooling inflation and growth in the US economy spurred sentiment, raising hopes that the economy may avoid a recession. Within EMs, analysts have raised 2023 earnings estimates for Asian companies given slowing inflationary pressures and China’s reopening.6
For the month of January, the MSCI Emerging Markets Index rose by 7.9%, while the MSCI World Index advanced by 7.1%, both in US dollars.
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The most important moves in EMs in January 2023
Emerging Asian stocks finished the month higher, holding onto gains from the previous quarter. Once again, China was a leader in the region, buoyed by the government’s support for the economy to spur domestic demand and revive the property sector. A possible peak in COVID-19 infections, signs of normalization of China and the reopening of the China-Hong Kong border also boosted sentiment. Conversely, Indian stocks were under pressure from continued selling and higher oil prices.
Latin American EM equities also swung higher in January, with all countries showing gains. Regional heavyweights Mexico and Brazil started the year on higher ground. Brazil reported a sharp drop in inflation at the end of 2022 due to fiscal measures and monetary policy tightening. Mexico saw economic activity rebound in 2022 as the tourism sector experienced a revival. Exports from the automotive sector also contributed to Mexican economic growth.
EMs in Europe, Middle East and Africa also advanced as a whole but saw more moderate gains than Latin American and Asian EMs. Saudi Arabian shares ended higher amid a recovery in oil prices, and South African equities benefited from relatively cheap valuations and a slowing inflation rate. Conversely, Turkish stocks tumbled and ended a prior rally as investors shifted their risk appetite and took profits in a market which outperformed in 2022.
