Emerging Markets: Volatility Returns Despite Optimism for Global Growth
February 2018
Market Environment
The -4.60% return of the MSCI Emerging Markets Index in February trailed the -4.10% return of international developed markets as measured by the MSCI World Index. Global equities sold off and registered the worst monthly performance since January 2016. All emerging markets sectors declined. Equity market volatility rocketed and the U.S. 10-Year Treasury Yield climbed 20 basis points, ending the month at 2.90%. New Federal Reserve Chairman Jay Powell gave his first congressional testimony and investors took his remarks to mean that the Fed will take a more hawkish path. Commodity prices fell during the month with Brent Crude down more than 5%. On an encouraging note, global growth in 2018 is still expected to exceed 2017. Emerging Europe, Middle East and Africa (EMEA) was the best performing region, led by Russia. Russia’s sovereign debt received a rating increase to investment grade from Standard & Poor’s near month end with the company citing the country’s ability to adjust to lower commodity prices because of domestic policy. This was the first upgrade for Russia by S&P since 2006. In South Africa, President Jacob Zuma resigned and Cyril Ramaphosa was sworn in as president. Ramaphosa’s ensuing cabinet reshuffle, however, highlights the political reality that he and his allies face.    

Latin America was the next best performer with Brazil and Peru declining less than the overall emerging markets index. In Brazil, the central bank continued cutting the country’s benchmark lending rate, bringing the SELIC to 6.75%, while in Mexico, the central bank hiked its benchmark rate by 25 basis points, bringing the rate to 7.50%. In Brazil, for the first time since the military dictatorship ended, the government placed the army in charge of the state of Rio. NAFTA negotiations continued between the U.S, Canada and Mexico, and it appears unlikely that the discussions will conclude before the Mexican presidential election this summer or prior to the U.S. midterm elections in the fall.   
Asia ex-Japan was the weakest regional performer, dragged down by China, India and South Korea. Only Thailand eked out positive performance. The country approved its first minimum wage hike since 2003. South Korea was one of the few markets in which companies reported earnings that missed estimates, which is causing cuts in earnings projections for 2018. India’s state-owned banks, meanwhile, continued to work through the consequences of fraud uncovered last month at Punjab National Bank (PNB). In addition, the country’s 2018-2019 fiscal year budget reintroduced a capital gains tax on equities of 10% with gains prior to January 31st grandfathered. The tax has likely caused some short-term weakness in the market as investors assess the change. In China, the Communist Party Central Committee proposed to remove the constitutional two-term limit, suggesting that President Xi wants to remain in office beyond 10 years.  

Outlook
Consensus for emerging markets 2017 earnings growth moved slightly up again as companies continued to report results during the month. Estimates for 2018 call for earnings to climb more than 13% year over year and growth estimates for 2019 have increased to 11%. In the U.S., the commerce secretary has released reports calling for various actions, including tariffs on steel and aluminum imports. National security law was cited for the first time in a generation. The U.S. president has until mid-April to implement the tariffs, which, if enacted, could spark a trade war that would not be in any country’s best interest. 
There has been no change in the longer term structural support for emerging markets. The absolute price-to-earnings (P/E) ratio for emerging markets is holding steady but its discount to that of the developed world remains wide by historical standards. We continue to believe a 10%-12% P/E multiple discount is appropriate for an emerging markets to developed markets comparison. The discount has been narrowing and was 22% at the end of February.​

Fred Alger & Company, Incorporated is the parent company of Fred Alger Management, Inc. The views expressed are the views of Fred Alger Management, Inc. These views are subject to change at any time and should not be interpreted as a guarantee of the future performance of the markets, any security or any strategies managed by Fred Alger Management, Inc. These views should not be considered a recommendation to purchase or sell securities. Individual securities or industries/sectors mentioned, if any, should be considered in the context of an overall portfolio and therefore reference to them should not be construed as a recommendation or offer to purchase or sell securities. 

Risk Disclosure:  Investing in the stock market involves gains and losses and may not be suitable for all investors. Growth stocks tend to be more volatile than other stocks as the price of growth stocks tends to be higher in relation to their companies´ earnings and may be more sensitive to market, political and economic developments. Investing in companies of all capitalizations involves the risk that smaller issuers in which the Fund invests may have limited product lines or financial resources, or lack management depth. Special risks associated with investments in emerging country issuers include exposure to currency fluctuations, less liquidity, less developed or less efficient trading markets, lack of comprehensive company information, political instability and different auditing and legal standards. Foreign currencies are subject to risks caused by inflation, interest rates, budget deficits and low savings rates, political factors and government controls. Some of the countries where the Fund can invest may have restrictions that could limit the access to investment opportunities. The securities of issuers located in emerging markets can be more volatile and less liquid than those of issuers in more mature economies. Investing in emerging markets involves higher levels of risk, including increased currency, information, liquidity, market, political and valuation risks, and may not be suitable for all investors.

The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure equity market performance in the global emerging markets. The MSCI World Index is a broad global equity benchmark that represents large and mid-cap equity performance across 23 developed markets countries. Investors cannot invest directly in any index. Index performance does not reflect the deduction for fees, expenses, or taxes.  

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