Investing in the Emerging Markets Evolution

Over the last decade, the dominant driver of EM growth has shifted from commodities to consumption and technology.

November 06, 2017

Emerging markets (EM) are expected to be the primary driver of global growth over the next decade (read 5 Drivers of Emerging Market Growth article for details), but a radical shift in the forces shaping emerging markets will require investors to think differently about their investment approach. As EMs continue to be buoyed by youthful populations and a rising middle class, consumption patterns will transition from being dominated by staples and essentials such as food, clothing, and shelter toward technology, consumer discretionary, financial services, healthcare, recreation, leisure, and personal care. As EMs gravitate from the “old economy” to the “new economy”—and as each EM embarks on its own unique journey—investors will need to focus on the cross-cutting themes, sectors, and companies that drive investment returns.

Percent change in sector weights in MSCI EM Index from December 2007 to September 2017

Technology and Consumer Discretionary allocations have more than doubled in the last 10 years.

Source: MSCI

 

 

Technology

Consumer
Discretionary

Healthcare

Consumer
Staples

Financials

Utilities

Industrials

Telecoms

Materials

Energy

% Change in weight from 2007 to 2017

109%

102%

43%

35%

3%

-22%

-39%

-48%

-50%

-59%

Current weight

28%
 

10%

2%

6%

23%

3%

5%

5%

7%

7%

 

Leapfrogging into the digital era

Disruptive digital technologies and automation are eroding EMs’ comparative advantage in labor-intensive manufacturing. But for EMs able to adapt to disruptive innovations, the digital age may bring new opportunities. For example, companies in tech-savvy EMs such as Brazil, China, and India are able to leapfrog the construction of bricks-and-mortar institutions given the pervasiveness of their digital and mobile economies, which significantly exceed those of developed markets. India, for example, is now among the top three markets globally for app downloads from the Google Play store, while Chinese Internet companies such as Alibaba, Baidu, and Tencent are beginning to rival the more-established, developed-market Internet companies as measured by market capitalization.1 The investment opportunities unleashed by the rapid adoption of fintech and e-commerce alone are compelling investment themes for EM equities today.

 

Fintech

Fintech companies require relatively low upfront capital costs to launch, meaning that they can thrive even in low-income economies. The rapid adoption of fintech in EMs allows consumers to gain access to modern payments and banking services while bypassing the inadequate bricks-and-mortar footprint of financial institutions. What is perhaps the most surprising feature of fintech and e-commerce investment opportunities in EMs relative to developed markets is the pervasiveness of Internet service providers and the rapid consumer adoption of their services. The multiple product lines of Tencent in China are a good example: WeChat offers instant multimedia messaging, Tenpay is the second-largest online payment system offering seamless connectivity to instant messaging services, Tencent Games is the largest online gaming community in China, and QQ provides an online news platform and browser. The success of EM fintech will be most evident in countries that enable innovation and foster entrepreneurship—especially through network connectivity, education, and regulations that foster digital innovation.

 

E-commerce

In countries with relatively underdeveloped bricks-and-mortar retail and young, digitally connected consumers, much of the growth will occur online in the form of e-commerce. In India alone, retail e-commerce sales are expected to grow from $16 billion in 2016 to more than $47 billion by 2020.2 Many large U.S. and EU e-commerce players have struggled in EMs for a variety of cultural, regulatory, and infrastructure-related reasons. Their slow progress has opened the door for local e-commerce platforms such as Argentina-based MercadoLibre and China’s Alibaba and JD.com to capture nascent high-growth markets. Investors looking to capitalize on the growing demand in EM e-commerce should focus on local or regional companies that have already developed their online and distribution infrastructure. Online marketplaces that provide consumer-to-consumer, business-to-consumer, and business-to-business platforms should all thrive, especially in countries such as Argentina, Brazil, China, and India, where most of these plays are public companies and can be accessed through public equity markets.

Investment opportunities in the digital economy

Fintech
In low-income economies, only 1 out of 100 people 15 years or older has a credit card, yet 1 out of 10 has a mobile money account, highlighting strong demand for fintech.

E-commerce
By 2019, retail e-commerce sales in the BRICs are projected to be more than double total sales in North America and Western Europe combined.

Source: World Bank, eMarketer

The evolution of the new domestic consumer class in emerging markets will transition “needs-based” spending to more “wants-based” spending and favor technology, consumer, and healthcare sectors, which offer distinctly attractive long-term investment opportunities. However, future investment success will likely require a focus on investment themes and individual company fundamentals. Seasoned growth managers with the insights necessary to anticipate emerging markets trends and accurately assess individual company fundamentals will likely be the best positioned to generate strong returns over the long term.

Read PGIM’s whitepaper, Emerging Markets at the Crossroads   for a detailed look at the EM evolution and resulting investment implications.

Read Jennison Associates’ whitepaper, Investing in Emerging Markets Growth   to learn more about shifting consumption patterns and the benefits of using an active management approach in emerging markets.


1 The Mobile Economy 2016, GSMA, 2016, www.gsmaintelligence.com/research/?file=97928efe09cdba2864cdcf1ad1a2f58c&download
2 “e-Marketer Cuts Estimates for Ecommerce in India: New Currency Rules Limit Online Buying Options,” eMarketer, December 6, 2016, http://www.emarketer.com/Article/ eMarketer-Cuts-Estimates-Ecommerce-India/1014800

BRICs is an acronym for the combined economies of Brazil, Russia, India and China. The MSCI Emerging Markets Index is a float-adjusted market capitalization index that consists of indices in 23 emerging economies and is designed to measure equity market performance in global emerging markets.

0311573-00001-00 Ed. 11/2017

Consider a fund's investment objectives, risks, charges and expenses carefully before investing. The prospectusopens in a new window and the summary prospectus contain this and other information about the fund. Contact your financial professional for a prospectus and the summary prospectus. Read them carefully before investing.

An investment in our money market funds is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the funds seek to preserve the value of your clients investment at $1.00 per share, it is possible to lose money by investing in the funds.

Mutual fund investing involves risk. Some mutual funds have more risk than others. The investment return and principal value will fluctuate and investor's shares when sold may be worth more or less than the original cost. Fixed income investments are subject to interest rate risk, and their value will decline as interest rates rise. Asset allocation and diversification do not assure a profit or protect against loss in declining markets. There is no guarantee a Fund's objectives will be achieved. The risks associated with each fund are explained more fully in each fund's respective prospectus. Your clients should consult with their attorney, accountant, and/or tax professional for advice concerning their particular situation.

This material is being provided for informational or educational purposes only and does not take into account the investment objectives or financial situation of any client or prospective clients. The information is not intended as investment advice and is not a recommendation about managing or investing your retirement savings. Clients seeking information regarding their particular investment needs should contact a financial professional.

Investment products are distributed by Prudential Investment Management Services LLC, a Prudential Financial company, member SIPC. Jennison Associates and PGIM, Inc. (PGIM) are registered investment advisors and Prudential Financial companies. QMA is the primary business name of Quantitative Management Associates LLC, a wholly owned subsidiary of PGIM. PGIM Fixed Income and PGIM Real Estate, are units of PGIM. © 2017 Prudential Financial, Inc. and its related entities. Jennison Associates, Jennison, PGIM Real Estate, PGIM and the PGIM logo are service marks of Prudential Financial, Inc. and its related entities, registered in many jurisdictions worldwide.

Prudential Financial, Inc. of the United States is not affiliated with Prudential plc. which is headquartered in the United Kingdom.

Investment Products: Are not insured by the FDIC or any other federal government agency, may lose value, and are not a deposit of or guaranteed by any bank or any bank affiliate.