Emerging markets investors brace for historic election year
新兴市场投资者为大选年做好准备

Emerging market countries face a volatile 2024 as elections from Mexico to Indonesia — and a highly consequential presidential election in the US — look set to influence their future economic performance, adding to the uncertainties for investors in risky assets.

Up to 2bn people could ultimately vote in elections by the end of this year. And electoral contests in emerging market countries India, Indonesia, Mexico and South Africa are expected to inject volatility into investors’ portfolios.

Historically, as lawmakers get anxious ahead of elections, they tend to relax their fiscal discipline to win over voters. But this pre-election policy shift can hurt the creditworthiness of emerging market countries, as well as that of state-owned enterprises.

In addition, if election outcomes are deemed contentious, civil unrest among the population can dent countries’ gross domestic product.

This year’s elections come as emerging market equities have broadly fallen out of favour with investors. The prolonged outperformance of US equities — which have proved practically unbeatable by emerging markets since 2012 — has led to “a massive under-allocation of global investors into emerging market equities,” JPMorgan said, in a January report.

Global investors currently have only about 5.6 per cent of their share portfolios in emerging markets, versus a 20-year average of about 8.4 per cent, the bank noted. If investors repositioned themselves to that 8.4 per cent average, about $776bn would flood into emerging markets funds, JPMorgan calculated.

There has been little sign of such a widespread re-evaluation: the stock markets of China and Hong Kong are down by 30 and 29 per cent respectively over the past 12 months.  

However, this year’s election cycle has already provided a lift for one of the biggest emerging market stocks. In mid-January, when Taiwanese voters handed the pro-western Democratic Progressive party an unprecedented third presidential term, it also represented a victory for shareholders in Taiwan Semiconductor Manufacturing Company, which is the largest holding in the MSCI and S&P indices for emerging markets. TSMC’s shares are up 12 per cent so far in 2024, to a two-year high, following the election.

In bond markets, sentiment towards emerging markets has been more positive across the board. Emerging market corporate bonds returned 8 per cent in 2023 and government debt topped 10 per cent, JPMorgan pointed out. And there were no sovereign defaults last year, the bank added.

But this year’s elections could stress these benign conditions.

“Emerging markets already struggling with rising government debt levels could see a worsening debt situation, especially if pre-election spending on public sector wages, social grants, lower tariffs are accelerated,” warns Thea Fourie, head of Sub-Saharan Africa research at S&P.

South Africa, for example, has struggled to suspend its grants to citizens for “social relief of distress” ahead of the highly-contested May 2024 elections, she says.

Shamaila Khan, head of fixed-income for emerging markets and Asia Pacific at UBS Asset Management agrees that “it is very natural, before elections, to have a little bit more spending”. As a result “we would expect some level of volatility,” she explains.

In the case of India, Narendra Modi’s government recently promised record spending for infrastructure projects. Modi’s Hindu nationalist Bharatiya Janata party is widely expected to win a third five-year term in office in a lower house election likely to take place in April and May.

Before that, in Indonesia, a general election will take place on February 14. Former army general Prabowo Subianto is leading in the polls, but has said he wants to maintain the current administration’s policies — reassurances that the business community has applauded.

However, even when there is pre-election volatility, it can also present opportunities for “tremendous value generation.” For example, left-leaning candidates won presidential elections recently in Brazil, Peru, Colombia, and Mexico. Initially, their policies spooked markets but, in all of these countries, “the institutions were strong enough that the leaders who took office actually pursued very market-friendly policies,” Khan observes, “and those same countries became market favourites.”

Overall, she argues that “it is very hard to compete with the US equity market . . . but we do think this year is very attractive for fixed income. And, within fixed-income, emerging markets look very attractive from a valuation and technical perspective.”

However, in terms of impact, the biggest election for emerging markets investors this year is not in any of these countries — it is the likely presidential election rematch between Joe Biden and Donald Trump.

If Trump re-enters the White House and reignites trade wars, new tariffs would hit commodity-producing emerging market countries the hardest, says Marie Diron, a managing director at Moody’s.

Conversely, countries with large domestic economies — such as Brazil and South Africa — could fare better with a change in the US, she suggests.

“When there is a lower confidence, in general, in the future of the world environment, then emerging markets tend to be affected,” Diron says, and investment timing becomes key. For emerging economies, “the election, itself, is rarely really a point at which we see a material credit impact, because we do want to see policies fully designed and started to get implemented to have more confidence in implications.”