Do Emerging Markets Equities Still Make Sense?

Much attention has recently been given to the relative underperformance of Emerging Markets (EM) stocks.

Indeed, EM equities have lagged the S&P 500 Index (domestic) in six of the past eight years by a fairly wide margin. Many investors now question if a strategic EM equity allocation still makes sense in a diversified portfolio as a result.

While many factors influence EM equity returns and the past is not necessarily a predictor of future results, this article will review historical EM and domestic return data and offer some thoughts investors may want to consider.

Below is a graph depicting the growth of $10,000 invested in the MSCI EM Index and the S&P 500 Index starting on 12/31/1987[1]. The MSCI Emerging Markets (EM) Index is referenced as it is the longest dated comprehensive emerging markets equity index[2] with inception 12/31/1987.

It is fairly clear that there is positive correlation between the two indices and both end at roughly the same point.  However, it appears that there have been significant time periods where EM equities have either strongly outperformed or strongly underperformed domestic equities historically.

The chart below divides the return series into 4 distinct time periods between the two indices.  From 1988 -1993, EM equities more than doubled the return of domestic equities.

From 1994-2000, the S&P 500 exhibited large, positive returns overall, whereas MSCI EM Index actually lost money.  The series then flipped again in 2001 with EM equities strongly outperforming the S&P 500 by almost 150% cumulatively.