Emerging market stocks may still lag behind comparing to U.S. stocks

This is an indisputable fact. Despite faster growth and lower valuations, developing-country stock markets have lagged behind the U.S. for much of the past 11 years. But with the Fed's tapering looming, fund managers including Goldman Sachs and Bank of America expect a new commodity cycle and corporate growth to lead emerging markets into an era of their own dominance. However, it turned out not to be the case. That is, while global markets are adjusting to views that central banks such as the Federal Reserve are scaling back stimulus, emerging markets have failed to gain much momentum, and what some investors have previously called a "lost decade" in emerging markets looks to continue.

The MSCI Emerging Markets index is down about 2% this year, while the S&P 500 is up 25%. That brought the ratio between the two indices to the lowest level since December 2001. While stocks in the developing world are 40% cheaper than U.S. stocks, poor earnings prospects are preventing investors from buying them.

Tighter monetary conditions may still trigger more capital outflows from the United States. However, investors say emerging markets are still too weak to capitalize on the trend as their relative growth advantage shrinks. “U.S. equities get more liquidity than emerging market equities,” said Daniel Gerard, senior multi-asset strategist at State Street Global Markets in Boston. The poor performance has led to earnings performance in emerging markets being much lower than in developed markets.

In the six years before the pandemic, emerging economies grew on average 2.4% faster than developed countries. The gap narrowed to an estimated 1.2% this year as developing countries failed to catch up with developed countries in terms of fiscal and monetary policy support for their economies. This gap is not expected to widen again until 2023.