IS EMERGING CHEAPER THAN DEVELOPED?
By Monish Chhabra ǀ November 25, 2019
The recent out-performance of the US market, has created an impression that the developed markets are much more expensive than the emerging markets. This note digs it deeper.
The following chart shows the last two decades of the performance of developed and emerging markets. We start both with the base of 100. In both cases, the dotted line is the average trend line.
Seeming conclusion today
The first impression is that the emerging markets look much cheaper. The orange emerging line is much below its dotted trend line, while the blue developed line is slightly above its dotted trend line.
Also, the trend line of emerging markets has a steeper slope than that of developed markets; suggesting faster growth.
It seems like a no-brainer; emerging markets have faster growth and cheaper price.
However, that is the same conclusion we would have reached a decade ago, at about the mid-point of the graph above. And that would not have worked out well.
The 2010 conclusion
At the end of 2010, if we were to do this same exercise, this is what the graph looked like.
Emerging market’s orange trend line had a much steeper slope and its price was below the trend. Developed market's blue trend line was much flatter, and its price was at the trend.
We would have ascertained the emerging markets to be the better opportunity at the end of 2010. However, what followed over the next decade, was quite contrary to the expectation.
The developed market’s blue trend line grew much steeper, and yet its price barely touches the trend today. While, the emerging market’s orange trend line got much flatter, and still its price looks higher than the trend today.
Despite looking better and cheaper at the end of 2010, the emerging markets did not do well for the next decade.
One reason that the 2010 conclusion failed was because it lacked context of what had happened before the decade of 2001-2010.
The spectacular growth of the emerging markets in the first decade of the new millennium, was similar to the growth of the developed markets in the decade before that.
The normalized growth of the developed markets over the longer term, could have provided better context for the emerging markets.
Normalized 2010 conclusion
The following graph super-imposes the performance of the developed markets from 1991-2010, with the performance of the emerging markets from 2001-2010. Also shown is the longer-term trend line in dotted blue.
If this was the graph we looked at the end of 2010, our conclusion would have been very different.
We would have noted that the emerging markets have gone through a decade of super performance during 2001-2010, just like the developed markets did during 1991-2000.
And if we trusted the longer-term trend line, the emerging markets would have looked pricey (far above the dotted blue line), compared to the developed markets (below the dotted blue line).
That conclusion with comparative backgrounds and normalized growth, would have served better subsequently.
What followed in the emerging markets, is shown below; the developed markets (1991-2010) super-imposed with the emerging markets (2001-2019).
The longer-term trend proved quite gravitational. It pulled the emerging market performance closer to it, just like it had done earlier with the developed markets.
Normalized conclusion today
The following is the super-imposed graph of the developed markets over the last three decades (1991-2019), with that of the emerging markets over the last two decades (2001-2019). Also shown is the longer-term trend line in dotted blue.
If we trust the normalized trend line, there are a few things to infer today.
On its own, neither market is really cheap. Both the emerging and the developed markets are currently priced a bit above the trend line. Nor are they wildly expensive.
Relative to each other, there isn’t much difference. This is not one of those times when one is clearly much cheaper or much more expensive than the other.
In a decade from now, both the markets - developed and emerging – would be higher than today. Even if they just tread along the trend line, they would both show gains.
In either case, there is no reason to be greatly fearful, or fiercely greedy. Stay invested, pick wisely and be balanced.
This write-up is for informational purpose only. It may contain inputs from other sources, but represents only the author’s views and opinions. It is not an offer or solicitation for any service or product. It should not be relied upon, used or construed as recommendation or advice. This report has been prepared in good faith. No representation is made as to the accuracy of the information it contains, nor any commitment to update it.