If the recent elections have taught us anything about investing it is that the stock market dislikes uncertainty. We can see uncertainty across the globe leading many investors to favor US stocks versus international holdings such as emerging markets, but is that the right choice long-term? You’ve heard that diversification is wise, but are emerging market investments the right investing opportunity?
What are emerging markets and should you invest your money there?
The concept of emerging markets and emerging economies typically focuses on developing countries with economies that are becoming more industrialized and experiencing rapid growth. Examples of emerging markets are the “BRIC” economies: Brazil, Russia, India, and China. In today’s connected world, these countries may serve as growth opportunities for a number of reasons:
- Production efficiency: Emerging economies often have the most room for improvement as it relates to production efficiency.
- Demographics: Populations are increasing, with young workers moving from the countryside to cities.
- Growing consumption: As those young populations grow their incomes, growth in consumption could lead many of these countries to focus more on domestic consumption versus a dependence on exports to wealthier countries.
What risks are associated with emerging markets investing?
Emerging market economies are a growing source of revenue contribution to a world economy but how does that translate to investing? Emerging markets carry additional risk and volatility compared to investing domestically. Here are a few reasons why:
- Currency fluctuation: Changes in currency valuations relative to the US dollar can create additional volatility as well as the risk of a loss of value even though the investment was profitable before the currency exchange.
- Inflation risk: Somewhat linked to currency risk, inflation risk can pose a real problem to emerging markets because of conflicting goals; inflation leading to an appreciating currency can make exports less appealing to foreign buyers.
- Liquidity: Smaller, emerging market companies often have lower trading volumes than more established companies in developed markets. In times of market stress it can be hard to trade these stocks or trade them at a fair price.
- Political instability: As we’ve recently seen in the United States, political uncertainty can lead to market volatility, and emerging market economies often face the biggest obstacles due to unstable governments and geopolitical conflicts. Recently, we’ve seen instability around Brexit.
According to JP Morgan’s Market Insights, we’ve seen an uptick in earnings per share in emerging markets and are also seeing current valuations below their 25 year averages. So, is now the right time to invest in emerging markets? Does emerging market exposure fit your plan? Are you able to hold a potentially more volatile asset over the long-term?
"The stock market is a device for transferring money from the impatient to the patient" – Warren Buffett
With any investment strategy, seeking professional help is critical to help ensure your capital aligns with your values, especially when it comes to navigating the waters of emerging markets. Visit with a CFP® professional to help you build a portfolio that is customized to your plan and your financial life.
*Map provided by JP Morgan