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Why ‘unloved’ emerging markets may be primed for a rebound

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CHICAGO — An explosive combination of demographics and technology may spark a new surge of growth in emerging markets, according to industry analysts.

“We’re seeing young people in developing countries with entrepreneurial drive who are increasingly getting connected to the internet,” said Richard Sneller, head of emerging markets equity for Baillie Gifford. “It will be the most exciting growth stage in emerging markets over the next 10 years.”

The growth will be bottoms-up, not macro, Sneller told advisors attending the annual Morningstar Investment Conference.

“We’re talking about a 30-year-old housewife in India who can start her own business because she’s now connected to the internet,” he said. “Adoption is accelerating at an incredible rate.”

Sneller also expects the development of artificial intelligence — especially in China — to fuel growth in emerging markets.

“I think we’re in the very early stages of a new revolution driven by AI,” Sneller said. He noted the Chinese government is heavily promoting artificial intelligence, said to be critical for the country’s development over the next 20 to 30 years.

India’s legal system is more reliable, but Chinese companies are faster to adapt to change, according to Rajiv Jain, CIO for GQG Partners.

Sneller said he expected the Chinese pharmaceutical sector to be a “large growth area in particular. I think they’ve just scratched the surface of what might be possible.”

Rajiv Jain, chief investment officer for GQG Partners, was also upbeat about emerging markets’ prospects — particularly in India and China.

While India’s legal system is more reliable, Chinese companies are faster to adapt to change, he told advisors.

But Jain also acknowledged that Chinese tech companies have a tendency to be highly leveraged, burn cash and have a high cost of customer acquisition.

Combine an emerging markets ETF with active management, says David Dali, portfolio strategist for Matthews Asia.

While Sneller and Jain extolled the potential outsized rewards of investing in emerging markets, they also cited the considerable risks of the asset class: including high volatility, political uncertainty, lack of transparency and poor corporate governance.

So what should advisors tell clients?

Morningstar’s senior analyst for equity strategies, Christopher Franz, notes that the benchmark MSCI Emerging Markets Index is trading at a considerable discount to U.S. stock indexes such as the S&P 500 and the Russell 2000.

“Emerging markets have been so unloved lately,” he said. “This would be a great time for investors to rebalance EM stocks back into their portfolio.”

In an interview with Financial Planning, David Dali, portfolio strategist for Matthews Asia said “the single best thing advisors can do is tell clients to own an ETF covering emerging markets and then find an active manager who holds a substantial amount of EM companies with domestic consumer exposure.”

Noting that Asian countries — excluding Japan — now account for 73% of the MSCI Index, Dali added that it was critical for advisors to help their clients “get the Asia component right.”

“An investor’s biggest challenge is to find a team that has the research wherewithal to handle the China and India of tomorrow,” he said.

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