However, the story in emerging markets looks more encouraging. While nobody expects China or India to return to their glory days of 10% or more annual growth, things may pick up next year. Growth in China could accelerate from 7.8% this year to 8.2% in 2013. Expectations are even stronger for Brazil, where the economy is expected to grow by 4%, versus a lackluster 1.5% in 2012.
One reason for the optimism is that most emerging markets–particularly China and Brazil–have been aggressively easing monetary policy by lowering interest rates. For example, in Brazil, short-term rates have fallen from over 12% to an all-time low of 7.25%. Typically, monetary policy works with about a six- to 12-month lag. Just as tighter monetary policy in 2011 was a drag on growth in 2012, this year’s easing should be supportive of growth in 2013.
Despite the fact that emerging markets are set to significantly outpace developed markets, the valuation of stocks remains low in emerging markets compared to those in developed markets. Emerging market countries are still trading at around a 20% discount to developed markets. With inflation stable and growth set to accelerate, we think the relative difference in value offers a good opportunity for investors looking to gain access to growth in a slow growth environment. As such, we would advocate that investors overweight emerging market equities heading into the new year. In particular, we continue to like China, Brazil and Russia. For retail investors seeking a less volatile strategy, we would consider the iShares MSCI Emerging Markets Minimum Volatility Index Fund (NYSEArca: EEMV). [Some Overlooked Low-Volatility ETFs]
Russ Koesterich, CFA, is the iShares Global Chief Investment Strategist.