Knowledge. Shared Blog

October 2020

Emerging Markets Caught in Trade Winds

Geopolitics are often an important consideration when investing in emerging market (EM) stocks, the upcoming U.S. election included. But regardless of who takes the White House in November, the next administration is likely to continue down a path of deglobalization, with important considerations for EM investors, says Emerging Market Equity Portfolio Manager Daniel Graña.

Key Takeaways

  • Regardless of the U.S. election outcome, either presidential candidate would likely continue down a path of trade reform and deglobalization.
  • Against this backdrop, a rising tide will not lift all boats in emerging markets. To succeed, we believe companies must adapt supply chains and governments must focus on policy reform and investing in competitive intellectual property.
  • To the extent the election improves the economic outlook for the U.S., that could be a positive for emerging markets. However, the benefit would be tempered if higher taxes, stringent regulation and surging national debt hinder growth.

View Transcript

Daniel Graña: The 2020 U.S. presidential election has some echoes from the 2016 election in the sense that markets hate uncertainty. And in 2016, we had a very unpredictable candidate, President Trump, or candidate Trump, that was going to run for office and made lots and lots of promises and threats. This time around, Trump is a little bit more of a known quantity, but let’s not forget that an important part of the emerging markets story is the ability to export their way to economic development. And I would suspect that a second term of Trump would continue sort of down the path of renegotiating or ripping apart trade agreements.

I think Biden [if elected], President Biden will be tougher on China than perhaps President [Bill] Clinton was when President Clinton negotiated the WTO [World Trade Organization] ascension with China. But I suspect that the progressive wing in the Democratic Party will certainly keep the pressure on to sort of focus on the blue-collar workers that have lost out from trade. And so, I think even President Biden, if he were elected, he would feel the pressure to talk tough on trade with China. I think perhaps the nuance is a President Biden would be more multilateralist, whereas President Trump is a unilateralist. What does that mean? He would be more willing to work with allies and because he would be spending more time with allies, there would be fewer fireworks, it would be a slower process. But I think the die is cast. I think the U.S. and China, whether it is fast speed under Trump or slow speed under Biden, are in the process of some version of trade decoupling, reversal of globalization or reversal of everything we have accomplished in the WTO.

While we can’t say for sure what is going to happen in the future in terms of trade agreements, what I can say is that the likelihood is a lot of companies are going to have to diversify their supply chains. I think it would be irresponsible of them to continue having a disproportionate share of the supply chain based in China. I think there are some EM companies that will benefit; in some cases, they will be able to supply the Chinese companies that are in the process of localizing or moving away from U.S. supply companies. So, I think it’s a mixed picture.

The top-down has always been important in emerging markets. So, choosing the right countries – this is an asset class that has seen sovereign debt crises, currency crises, banking crises – the choices that countries make, the choices that companies make, too, have disproportionate effects because the institutional guardrails are not there. We are emerging. And so, if we are moving to a world of deglobalization of where you have to choose a side, it’s necessarily a more difficult, more complicated environment. And some countries are going to do better because they have reformist governments or they have the right technology, the right amount of intellectual property has been created; or some other countries won’t do as well.

To the extent that the U.S. election produces change that improves the economic outlook for the United States – so, let’s say we finally address the poor infrastructure that we have in this country – to that extent that you raise the potential GDP [gross domestic product] growth rate of the United States, that’s a very good thing. However, to the extent that much higher taxes and much higher regulation sort of doesn’t follow with improvement and efficiency and improvement in the debt trajectory of the country, then those kinds of policies will tend to slow the U.S. economy and those kinds of policies will also potentially have a negative collateral effect on U.S. equity markets. EM markets can outperform when U.S. equity markets struggle, but that has not been sort of a usual situation.

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