When Emerging Markets Grow Up

Investors in emerging markets are typically attracted to the return potential in fast-growing countries. But do all emerging countries fit the bill? South Korea and Taiwan warrant special attention.

It’s been a difficult week for emerging-market (EM) equities, which have fallen sharply amid concerns about the potential impact of US policies on trade and currencies under Donald Trump’s incoming administration. Still, EM stocks have been solid performers in the year to date and many investors have been considering increasing exposure to the developing world. Exchange-traded funds that track an EM index are popular. But we believe that benchmarks are not the best way to position a portfolio in the developing world—in particular when it comes to country exposure.


Two Asian tigers are a case in point. South Korea makes up 14.8% of the MSCI Emerging Markets Index, while Taiwan accounts for another 12.2%. So investors who stick with this index will be putting about 27% of their investment in these two countries by default.

But should South Korea and Taiwan even be considered emerging markets? Three decades ago, the answer would be a resounding yes. Between 1986 and 1995, GDP growth averaged 9.5% in South Korea and 8.4% in Taiwan (Display)—a healthy “emerging” pace by any definition. But since 2006, their growth rates have slowed to an annualized 3.5%—much closer to what you’d expect in more mature markets.

The comparison is even more revealing on a per capita basis. For South Korea, GDP per capita (at purchasing power parity) is US$37,699—99% of the European Union average—while for Taiwan, it’s 25% higher than the EU average is (Display above, right). In fact, South Korea’s GDP per capita is slightly higher than Italy’s is, while Taiwan’s is slightly higher than is that of Germany.


In contrast, the GDP per capita of India and the Philippines is about a fifth of the EU average. Both have grown much faster than developed countries over the past two decades. And their growth rates have accelerated over the past 10 years to 7.5% for India and 5.4% for the Philippines. Yet Indian stocks make up only 8.3% of the MSCI EM benchmark, while Philippine stocks account for only 1.3%.