Emerging market (EM) equities have been shrouded by years of underperformance. China’s transition from an investment-led economy supporting commodity prices and the performance of many EM commodity producers like Brazil and Russia have been major disappointments.
As one of my colleagues discussed recently, there has been a large dispersion in country performance, with Asian importers of commodities like India
, China and Taiwan leading the pack, and Russia and Brazil at the bottom. This macro theme has also played out in the underlying fundamentals
and earnings growth of the various sectors in emerging market indexes.
EM Stuck in a Rut?
EM has experienced a contraction in earnings of more than 22% over a period of 43 months—the longest earnings recession since 1999. While earnings have edged higher since the bottom in 2014, EM earnings would have to grow almost 30% to reach their prior peak in 2012.
Interestingly, not all emerging markets are built alike—there is a high degree of variability across countries and sectors in terms of their earnings strength and potential. This distinction becomes especially important for those who are considering investing in EM during turbulent market environments.
EM’s Lackluster Earnings per Share (EPS) Closely Tied to Commodity Prices
Sector Highlights—New Economy Sectors Show Promise:
Throughout this recessionary period in EM earnings, only four of the 10 sectors experienced positive earnings growth. Upon dissecting earnings at the sector level, we observed that old economy sectors in EM, namely Materials, Energy and Industrials, have experienced the most significant deterioration in earnings. One common thread among these sectors is their heavy reliance on commodity prices, which is in turn partly driven by global growth concerns.
Given faltering global growth, as projected by the International Monetary Fund
, it may be prudent to look for sectors that are less commodity- or old economy-oriented.
Positioning in Areas of Earnings Strength:
We believe that exposure to EM Consumers, Information Technology and Health Care—driven by supportive population demographics, a growing middle class and innovation—will help drive the earnings recovery in the years ahead.
• The WisdomTree Emerging Markets Consumer Growth Index (WTEMCG)
, through its growth and quality tilts, offers access to the new economy sectors in EM.
• While the MSCI Emerging Markets Index has experienced an earnings contraction of almost 23%, WTEMCG saw its earnings contract by only 1.5%. The ability to maintain its earnings growth while the MSCI EM Index experienced a large contraction in earnings is testimony to the strength of the consumer-related sectors in the EM block.
• Further, WTEMCG is designed to exclude the Energy and Materials sectors, so there is zero weight to those two sectors. Industrials, which can be influenced by commodity price cycles, is also a small weight in WTEMCG. As a result, the three sectors with the biggest earnings declines are 21.8% weight in the MSCI EM Index but only 3.2% weight in WTEMCG.
• It comes as no surprise that WTEMCG has been able to showcase relative strength in earnings growth. This index is designed to help investors gain access to areas of the markets that have strong:
• Growth characteristics, through three- to five-year forward-looking earnings growth estimates