How to Invest in Emerging Market Equities as New US Policies Bite

Not all companies in emerging markets will be hurt by President Trump’s agenda. Here’s what equity investors should look for.

Emerging markets (EM) appear to be particularly vulnerable to President Donald Trump’s policy plans. But the uncertainty could create opportunities in stocks that aren’t as susceptible as the market thinks.

If markets are to be believed, Trump’s election doesn’t look good for EM stocks. Since election day last November 4 through January 21, the MSCI Emerging Markets (EM) Index has dropped by 4.0%, while the S&P 500 Index gained 6.2%. That’s a yawning return gap of 10.2 percentage points between US and EM stocks over a two-and-half-month period.

Tariffs and Currency Raise Hurdles for EM Stocks

The negative sentiment is understandable. After taking office, Trump reiterated promises to go ahead with tariffs on Mexican and Chinese goods. Expectations of a stronger US dollar and weaker EM currencies could add another hurdle for developing world stocks. All this follows a decade of lackluster performance for EM stocks.

EM stocks actually performed relatively well during Trump’s first term. From Trump’s inauguration on January 20, 2017, to January 2021, the MSCI EM Index returned an annualized 14.1% in US-dollar terms, outpacing the MSCI World Index’s 13.3%.

While past performance doesn’t offset future risks, we think there’s more hope for EM equities in the coming years than is widely perceived. Here are a few positive counterpoints to ponder before writing off the asset class.

Bad News May Be Baked In

When Trump was elected to his first term in 2016, nobody really knew what to expect. This time, his policy plans have been clearly telegraphed to the markets, and despite the president’s unpredictability, we have a better idea of how he operates.

As a result, we think a lot of the bad news has already been baked into the market. EM stocks lagged developed market (DM) stocks throughout 2024. We believe the subsequent low valuations (Display) already reflect expectations of deteriorating conditions for EM companies. Yet EM earnings growth forecasts for 2025 are actually higher than those for DM companies. And earnings revisions are at a low point, which in the past has signaled strong forward returns.

These signals don’t mean that the risks aren’t real. But as we see it, they provide good reason to believe that there is fertile ground for selective investors to find underappreciated companies with attractive return potential.

Chinese Exports Have Been Resilient to Tariffs

US tariffs have become a fact of life for Chinese companies, well before Trump was elected to his second term. Since 2016—and through the Biden administration—Chinese companies have coped with a stiff tariff regime.

You might think this would lead to a decline in Chinese trade. In fact, China’s share of world exports has increased in recent years (Display). This trend reflects the adaptability of Chinese companies, which they have notably demonstrated by rerouting their supply chains through countries like Mexico and Vietnam. Chinese companies that have strategically reconfigured their supply chains in recent years could be well positioned to surmount the profitability penalty that new tariffs might inflict.

Plenty of Manufacturing Will Stay Put in EM

Trump’s policies are designed to bring manufacturing back to the US. Yet whatever incentives may be provided to US companies, we think it’s unrealistic to expect many types of low-cost manufacturing to return to America.

Clothing, toys and even many electronic components are still likely to be more cost-efficient to produce outside the US. Higher tariffs won’t always change the competitive math. Investors can look for EM companies in industries that are currently perceived as potential victims of new US policies but might emerge unscathed. And countries like India, Vietnam and Mexico could be beneficiaries of Trump tariffs, offering new opportunities for EM investors.

Is More China Stimulus Coming?

We don’t know the answer to that question. Chinese policy is always hard to predict. But here’s what we do know: First, China announced huge fiscal and monetary stimulus in 2024, amounting to nearly 6% of GDP. Second, in the past, big Chinese stimulus packages have spurred Chinese stock-market rallies, which have also lifted EM returns more broadly.

In fact, fiscal stimulus lifted Chinese stocks in the third quarter of 2024, when they were the best performers globally. Fiscal and monetary measures from last year are still filtering through to the economy and companies. To be sure, China’s economy is still sluggish. But any new stimulus package in 2025 could dramatically change the dynamics for Chinese equities—and for EM stocks more broadly.

Most EM Countries—and Companies—Aren’t in China

Given its dominance on the world stage, investors often conflate China’s fortunes with all the other EM countries and companies. We think that’s a mistake.

EM investors can’t ignore China, as it is the world’s second-largest economy, with a 26.2% weight in the MSCI EM Index as of the end of 2024. But the universe of companies in the MSCI EM benchmark is diverse, from large weights such as India and South Korea to growing players like Saudi Arabia and smaller benchmark constituents including Brazil, Greece and Poland. Investors can even find hidden gems in off-benchmark countries such as Kazakhstan.

Companies outside China may be less exposed to tariff risks if the US-China trade war escalates. Some opportunities in EM companies, from enablers of artificial intelligence to beneficiaries of South Korean reform, are less likely to get hit by US moves. And casting a wide net can create a diversified collection of EM stocks that helps reduce regional risks in parts of the developing world, particularly as US policy impacts spread. 

EM Is Still a Great Source of Alpha

We understand that EM market returns may come under pressure in 2025. Yet EM equities have historically been a very good source of alpha—or above-market returns—for skillful active investors (Display). 

How can active investors succeed in EM during the new Trump era? The key is to make policy risk an essential ingredient in fundamental analysis. Look for companies that are less susceptible to US policies, such as firms that don’t rely on the US as a main export market, or businesses that make vital components that don’t have immediate alternatives in the US. Companies that have already demonstrated their ability to streamline their supply chains may also offer competitive advantages as trade tensions mount.

Above all, policy-risk analysis must be integrated within a coherent and disciplined stock-selection process to overcome the pervasive pessimism that may obscure hidden EM gems. That means focusing on high-quality businesses with features such as competitive advantages, pricing power and management skill. By doing so, we think investors can calibrate their EM equity portfolios to perform well and deliver strong long-term results in a rapidly changing world.