Daniel Graña: After a very complicated 2022, investors are naturally asking, “What about the outlook for 2023 in emerging markets?” Unfortunately, some of the leftover issues from 2022 are still sort of haunting us in 2023. I think for a sustainable rally to occur in emerging markets, we need some resolution on some of these issues. The first one is the trajectory of Federal Reserve interest rates and the resulting impact of the dollar. We have seen some tentative signs that U.S. inflation perhaps is peaking, but until the market gets a good sense on the grasp on where interest rates are going to top, it’s going to be hard for the riskiest of asset classes to get comfortable that it’s time to rally.

The second is China policy pivots. Zero-COVID policy and the property market have acted as constraints on China growth and acted as constraints on the China equity markets and, given that China is roughly a third of the EM benchmark, as a constraint on the emerging market equity index.

So, again, to the extent that we get some clarity on these issues, we’ll have a better 2023. We have again seen some tentative signs. The government has begun to finally step in to stabilize the property market. The government has sort of hinted about changing the zero-COVID policy. For example, we have seen some recent media reports about maybe Omicron isn’t so bad compared to Delta. They’re beginning to prepare the population to perhaps move to what the rest of the world has come to, which is learning to live with COVID.

Another key issue to worry about leading into 2023 is the depth of the developed market recession. We know that much higher commodity prices are sapping the consumer in Europe, even affecting the consumer here in the U.S. But as we start to see some clarity on the first two issues, I think that we have grounds for being more optimistic about 2023.

As we head deeper into 2023, I think what the emerging market offers is very attractive growth at very attractive valuation. Not all countries are going to do well in 2023; not all companies or sectors are going to do well. But I think that the setup is very interesting for the back half of 2023 as we sort of resolve some of these more near-term issues.

The ‘innovation’ opportunity in emerging markets

Historically, the investment case for emerging markets centered around convergence and outsourcing. Outsourcing is, “We build things cheaper, better, faster.” There are very successful business models in that vertical in emerging markets.

But increasingly there is a third reason to invest in emerging markets that’s less pro-cyclical, and it’s called innovation. Now in the past, we in emerging markets played a bit role in making widgets for the supply chain, or we had to wait for innovation to lap at our shores. But increasingly there are companies in emerging markets that are using technology in ways that solve the age-old EM inequities in healthcare, in financial services, in the consumer experience, and so forth. Leveraging off very interesting platforms – blockchain, digital currency, AI – in ways that perhaps are not thought of in developed markets because they are very EM-specific issues that this hopes to tackle.

There are companies that use blockchain to solve the small- medium-sized business lack of funding in China. If you digitalize the entire supply chain, you have confidence in the state-owned enterprise banking system that they’re actually not taking SME risk – small- medium-size business risk – but they’re actually taking larger SOE [state-owned enterprise] risk, given that you can see the transparency on the contracts. They will then lend at much lower rates.

Another company would be one that’s digitalizing the healthcare space in India. We know that today there’s unequal access to clinics and hospitals. What can help solve that? Telemedicine. In Mexico, almost two-thirds of Mexicans don’t have a bank account. They’re not taking advantage of the formal banking system. What can help solve that? Fintech. So whereas incumbents are either unable or unwilling to target these sort of people who are not currently banked, Fintech can help solve that problem.

For all those reasons, we are quite excited about what innovation represents in emerging markets.