Emerging markets remain in the shadow of the U.S., but that could change if the Federal Reserve cuts interest rates later this year. India and Brazil are worth watching early.
Lower interest rates and a weaker dollar would be a positive for emerging markets in general, as higher emerging market yields would attract investors looking to diversify outside the U.S.
China’s efforts to revive its economy, coupled with geopolitical risks, remain question marks, but India and Brazil could have their own momentum beyond the Fed.
Let’s take India as an example.
S&P 500
India was expected to be hard pressed to match that, but they have done just that.
iShares MSCI India ETF
It’s up 29% over the past 12 months, while the SPDR S&P 500 ETF is up 26%.
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The country is benefiting from an improving economy, aggressive spending on infrastructure and its emergence as an alternative investment and manufacturing hub to China.
Indian stocks have rebounded from a brief slump after Prime Minister Narendra Modi won recent elections by a much narrower margin than expected, and even as share prices soar, money managers are still finding opportunities — albeit away from the most expensive stocks.
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On the other side, we have Brazil, a less well-liked market.
iShares MSCI Brazil ETF
This year, it’s down 17%.
But TS Lombard strategist Elizabeth Johnson sees light at the end of the tunnel and the possibility that the market may be reaching a bottom, with better-than-expected economic data, record low unemployment, relatively tame inflation and strong exports.
Another positive, Johnson said in a client note, is that Finance Minister Fernando Haddad is trying to put a spotlight on government spending as October elections approach. Brazil is due to announce budget cuts for the rest of the year on July 22. If the cuts are sufficient to enable the government to post a balanced base budget, it would be another encouraging sign that Brazil is on its way to fiscal consolidation.
The government also announced tax reform plans, with the House of Representatives maintaining the Treasury Minister’s proposed VAT rate of 25%.
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“The investment community has not fully grasped the positive impact this reform will have on Brazil in the medium to long term,” Johnson wrote.
One area attracting investors in both India and Brazil is the financial sector, helping to capitalize on economic transformation as more people gain access to banking services.
New Holdings
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The parent company of Brazil-based Nubank is one of Wasatch emerging markets manager Scott Thomas’ largest holdings in Latin America.Digital banks stand to benefit as banking shifts from a focus on high-income families to mass-market services in emerging markets.
The fintech doesn’t have the bloated cost structure of traditional brick-and-mortar banks and spends little on marketing because it’s attracting a long-underserved demographic. In addition to growing quickly in Brazil, Thomas noted, the company is also expanding into Mexico, where user numbers are booming.
In India, Thomas is also finding bargains in financial stocks that are much cheaper than the “daily picks” of companies tied to India’s rising infrastructure spending. Investors have shunned financial institutions as the need for higher bad loan provisions and higher interest rates has squeezed their earnings, offsetting the benefits of strong credit growth.
the result,
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Bajaj Finance trades at about 20 times earnings, roughly the same as it was before the pandemic, but it’s poised for robust earnings growth over the next few years as it targets Indians who are underserved by the banking industry.
About 80 percent of lending is still done through informal channels and two-thirds of banking is controlled by state-owned enterprises, which are not always run as efficiently as private companies, Thomas said.
Bajaj Finance is a disruptive fintech innovator that helps more Indians get credit, including for home purchases. Thomas expects the company to deliver more than 20% earnings growth as pressure from recent provisions and interest rates eases, and earnings could be boosted if India moves to lower interest rates.
Contact Reshma Kapadia at reshma.kapadia@barrons.com.
