Emerging market equities had a strong year in 2012, delivering returns in excess of 18%1.
While we believe emerging markets are currently some of the lone bright spots in terms of global economic growth, emerging market equity performance is certainly not without risk.
In 2011, for example, the MSCI Emerging Markets Index was down 18.42%, and in 2008 it was down over 50%2.
We believe one critical factor in judging the prospects for emerging market equities is valuation—how expensive are the emerging market stocks?
The answer today: Not very expensive, in our view. And hence we are still bullish on emerging market equities for 2013. Let’s review how we arrive at that conclusion.
Dividend Yield as a Valuation Indicator for the MSCI Emerging Markets Index
We have conducted a review of the calendar years since the MSCI Emerging Markets Index has been calculated, and have subdivided the years into two groups.
• “High Dividend Yield Years”: Years in which the starting trailing 12-month dividend yield was above the median trailing 12-month dividend yield for the MSCI Emerging Markets Index. The median trailing 12-month dividend yield was 2.25%.
• “Low Dividend Yield Years”: Years in which the starting trailing 12-month dividend yield was below the median trailing 12-month dividend yield for the MSCI Emerging Markets Index.
Based on the last 24 full calendar years of data on the MSCI Emerging Markets Index, the current trailing 12-month dividend yield—2.69% as of 1/31/2013—would rank as a low price point period. Higher trailing 12-month dividend yields indicate that a greater amount of aggregate dividends has been generated over the past 12 months relative to the current share price, while lower trailing 12-month dividend yields indicate the opposite.
• In the years following these higher trailing 12-month dividend yields3, the MSCI Emerging Markets Index had returns that averaged 33.03%4.
• During periods that ranked as more expensive for emerging markets, with lower trailing 12-month dividend yields, the average return over the 12 months that followed was just 1.90%.