What is an emerging market economy?

Emerging market countries are ones that are catching up with the advanced nations by growing their economies and boosting incomes. Developed economies have higher incomes and output per head. They have credible regulatory systems and a strong framework of property law so people can have more confidence in holding their assets. They have liquid markets allowing people to buy and sell shares relatively easily.

Investors can buy shares in their quoted companies or can buy a fund which contains a range of their shares which reflects the share markets they have created. Advanced countries usually have well traded currencies that normally avoid sharp and sudden devaluations but, over time, inflation can erode values and investors can lose their money. Investing in shares in advanced markets still carries a range of risks, including the possibility of governments changing the rules for foreign holders, and the chance of policy error in running their economies and currencies.

An emerging market economy is one that has made advances from low incomes and poor productivity and output. The countries have got closer to advanced-country standards in some of these crucial areas. It is a matter of debate which countries to label emerging. The creators of world equity indices make these judgements, assessing when a country reaches a sufficiently high level of income and output, when its regulatory and legal system can be more trusted and when its share markets allow reasonable trading when you want to buy or sell. This article is based on the MSCI indices.

It is possible to work out the overall worth of all the companies quoted on a given stock market. Each company has a specified number of shares in issue and the market quotes a price for each share, so simple multiplication of share price by the number of shares provides a market value for each company. Add all these up and you have a total value for the entire stock market.

If we look at the value of all the quoted companies on the main stock exchanges of the world, the US accounts for a massive 62.4% of the total value. This is based on the All World MSCI index. The Japanese market is in a poor second place at 5.39%, with the UK third at 3.54%. The top ten national stock markets worldwide account for 88% of total quoted market values. The top ten only include two emerging market stock exchanges, the Chinese at 2.76% of the world total, and the Indian at 1.75%.

The emerging market index

The MSCI Emerging Market index just includes the shares of the country stock markets they have decided to define as emerging. Chinese shares account for 26.5% of the index. India is second, with 16.7%, and Taiwan is third at 16%. South Korea is 12.9% of the index. This means the top four countries are more than 70% of the quoted company wealth of all emerging market countries. Add in Brazil at 5.8% and Saudi at 4.1% and the total for the top 6 is 82%.

As this list reveals, two of the top four countries are in many ways advanced or developed countries now. Taiwan and South Korea have grown quickly for many years and have reached similar living standards and incomes per head to some of the European countries that are part of the advanced world index. The International Monetary Fund’s 2024 list of countries by GDP per head puts South Korea and Taiwan ahead of Portugal and Greece and similar to Spain at around $34,000.

Both Taiwan and South Korea have done well in recent years in developing their technology sectors at a time of fast growth in the digital world. Taiwan’s largest company is Taiwan Semiconductor Manufacturing Co (TSMC) which has a dominant position in the provision of advanced silicon chips for a wide range of uses. TSMC is, as a result, one of the world’s largest and most valuable companies. It is the only company from an emerging market listed in the top ten of world companies by market value in the All-World equity index. All nine of the others are US companies.

Nine of the top 10 world companies are involved in the digital and online areas, with one pharmaceutical company. South Korea has Samsung, a large industrial conglomerate that accounts for big share of the South Korean market. It is involved in everything from shipbuilding to consumer electronics and is well known for its smart phones. There are debates about whether Taiwan and or South Korea should be promoted to advanced-country status. The issues that hold them back relate mainly to how easy it is to buy and sell shares in their markets, given trading volumes and amounts of capital available to facilitate trades at fair prices.

The top four companies in the MSCI Emerging Market index are all technology driven. Taiwan Semiconductor is 8.57% of the total, with Samsung second at 3.7%. The Chinese technology companies Ten Cent and Alibaba are third and fourth. The top four companies account for 17.5% of the index. Overall, technology is 24% of the Index, with financials at 16% and health care at 11%. The top three sectors are half the market value in total.

China and India dominate the emerging market economies by virtue of their large populations. They both have around 1,400 million people, so their economies are large by world standards even at modest incomes per head. China has grown rapidly this century and now has an income per head of $13,000, whilst India is still below $3,000. At 43% of the Emerging Market index, any investment in the sector required the investor to take a view on both China and India.

They are contrasting countries. India is the world’s largest democracy with a Western style rule of law and court processes. China is a Communist, centralised, authoritarian state which claims to be aligning more with the international rules-based system. In practice, foreign holders of equities and other assets does so on terms the government allows and may be subject to changes of policy and approach which would be more difficult in a democratic country with a freer press and political opposition. India has placed various limits on foreign investment into the domestic economy and other obstacles but is on a path to liberalise more.

Individual investors will decide how they assess the political risks of these different systems and decide if they are compatible with their ethical views. China is an ally of Russia, where many investors lost following the invasion of Ukraine and the abrupt changes made to ownership and trading arrangements as wide-ranging sanctions were imposed.

We have thought India a worthwhile investment for those wishing to take more risk. It has performed well in recent years and is no longer cheap, but growth prospects look favourable.

Other opportunities in emerging markets

Some analysts and investment managers follow the fortunes of markets such as Brazil and Saudi Arabia and identify opportunities to buy into good investments at sensible prices. Some think emerging markets as a whole could perform better from here as the advanced world shifts from high interest rates to counter inflation to a more permissive policy.

In the past some emerging share markets perform better when the dollar weakens and world trade expands, helping them with exports and with the costs of maintaining international debt. Whilst India and Taiwan have done well in recent years China has lagged.

Overall, the MSCI Emerging Market index has only produced an annual return of 2.66% for the last ten years. This has been disappointing and occurred despite strong economic growth led by China and India.