Search
The landscape of global equities shifted dramatically in early 2025 as emerging market stocks surged ahead of developed peers after years of lagging behind. Investors and analysts alike have taken notice of a significant reversal, driven by a blend of structural reforms, macroeconomic tailwinds, and changing currency dynamics. This article explores the key drivers, regional performances, risk considerations, and strategic implications of this compelling trend in a data-rich context.
In the first quarter of 2025, emerging market equities recorded a remarkable turnaround, MSCI Emerging Markets IMI Index rising by approximately 1.7% and surpassing developed markets performance for the first time in years. The VanEck Emerging Markets Fund mirrored this strength with a 1.97% gain in Q1, underscoring the broad-based nature of the rally. As of early May, the story became even more compelling: the MSCI Emerging Markets Index posted a 6.2% year-to-date gain compared to just 1.0% in developed markets, generating one of the largest outperformance margins in recent memory.
This surge resulted in a rare double-digit performance gap between non-U.S. and U.S. equities. By April 25, non-U.S. equities had outpaced U.S. stocks by roughly 10% in U.S. dollar terms—one of the largest such differentials in over half a century. Shifting fund flows and investor sentiment, combined with constructive policy actions in key economies, helped push emerging markets to the forefront of global equity allocations.
Zonal performance has varied, but common themes of policy support and structural reform prevail. In China, a rebound in the technology sector drove the MSCI China Index up 17% YTD, with “soft tech” firms in software and IT services benefitting from renewed government stimulus and consumer demand stabilization. Brazil enjoyed robust gains on the back of strong commodity prices and macroeconomic improvements, while India’s domestic orientation and deep structural reforms provided insulation from global trade tensions.
Central and Eastern European, Middle Eastern, and African (CEEMEA) markets have also benefited from improved risk sentiment and stable macro conditions, adding to the diversity of emerging market outperformance. Korea, traditionally a hard tech powerhouse, recorded an 18% rise in equity values as political uncertainties eased and corporate governance reforms took hold. Across these regions, sector rotations from hardware to software and services demonstrate the agility of emerging market economies in adapting to global shifts.
Several overarching macro factors have contributed to the recent outperformance of emerging equities. Foremost is a growth differential forecasted at 2.5% between emerging and developed economies, supporting stronger corporate earnings and higher allocation preferences among global investors. Indeed, MSCI EM earnings growth expectations are set at 17% for 2025, up sharply from 10% in 2024.
Valuation metrics remain attractive: the MSCI Emerging Markets Index trades at around 12.4x forward earnings, close to its 25-year average and below many developed market peers. A weakening US dollar tailwind—with the DXY index down 9% YTD—has eased currency headwinds that weighed on EM returns in prior years, potentially drawing fresh portfolio inflows. From a long-term perspective, EM companies’ share of global equity market capitalization has more than doubled from 5% in 2001 to 11% today, and up to 30% when including globally-exposed domestic firms.
Trade disputes and geopolitical tensions have long been significant risk factors for emerging markets, yet recent developments illustrate resilience. New U.S. tariff proposals in early 2025 targeted export-driven Asian and European economies, but a 90-day U.S.-China tariff pause provided a much-needed reprieve, boosting investor confidence. China accelerated its pivot toward consumption and innovation, while India leaned on domestic demand and structural reforms, maintaining steady growth despite external headwinds.
In Latin America, countries such as Mexico and Brazil have largely been shielded from tariff-related shocks by favorable trade agreements and strong commodity inflows. Meanwhile, persistent geopolitical flashpoints—including border tensions between India and Pakistan—have had muted impact, with local policy responses and corporate fundamentals helping cushion market volatility. This resilience underscores the differentiated nature of risks across emerging regions and highlights the importance of active monitoring.
Historically, emerging market equities have alternated between cycles of outperformance and underperformance relative to developed markets. Since 2010, EMs underperformed DMs by an annualized 6%, largely driven by prolonged US dollar strength and slower growth in key export sectors. However, weaker dollar cycles and policy shifts have often coincided with bursts of EM strength.
For long-term investors, the inclusion of EM equities has produced higher risk-adjusted return profiles when combined with developed market holdings. Over the past two decades, a blend of EM and DM equities generated superior returns with only marginally higher volatility, thanks to low correlation between regional business cycles. This diversification benefit remains a compelling argument for maintaining meaningful EM allocations, particularly as valuations appear favorable relative to history.
Despite the recent strength, emerging market equities face several headwinds that warrant caution. Local policy missteps, political instability, and sudden shifts in global monetary conditions can trigger rapid reversals. China's real estate sector continues to exhibit vulnerabilities, and future trade tensions could reemerge, especially if diplomatic negotiations falter after the tariff pause.
Currency volatility remains a critical risk, as sudden reversals in the U.S. dollar trend could quickly erode recent gains. Additionally, concentration risks in regions such as China and South Korea mean that country-specific developments can disproportionately influence broader EM indices. Investors should weigh these factors carefully and consider dynamic risk management strategies.
Looking ahead, the outlook for emerging market equities remains constructive but nuanced. The combination of solid growth projections, attractive valuations, and a potentially more accommodative dollar provides a supportive environment, yet risks persist. Investors should focus on selective exposure to high-growth markets and sectors, balancing macro tailwinds with vigilant risk control.
Key considerations for strategic positioning include:
Incorporating emerging market equities into diversified portfolios can enhance returns and provide cushioning against developed market cycles. By combining a disciplined approach with a keen awareness of regional dynamics and long-term structural shifts, investors can position themselves to capture the next leg of growth in these vibrant economies.
References
