Emerging markets were one of the big winners in 2025, with the MSCI Emerging Markets index up 24.4% last year, beaten by only the Euro STOXX, according to FE fundinfo data.
This was something of a change of fortune for the once-struggling index, which had delivered single-digit total returns in 2023 and 2023, and lost investors’ money both in 2022 and 2021.
Notably, despite recent volatility this year over the war in the Middle East, the index has managed to hold onto some gains and is up 10.8% year-to-date, according to FE fundinfo.
After such a strong year of performance, investors may wonder if the index can still deliver, but for Cusana Capital’s Rob-Marshall Lee, following the benchmark in emerging markets is a dangerous game.
“The temptation for many people is to follow the trade, but that’s exactly why so many people have a bad experience in emerging markets; they act like tourists,” he told Portfolio Adviser.
There are a few reasons for this, but one of the biggest is owing to the type of companies that dominated the index, he said.
See also: Cusana Capital’s Marshall-Lee: How to avoid wasting time on mediocre companies.
The 10 largest companies in the index represent roughly 31.9% of the total assets, five of which were classified as information technology companies.
Other managers have also noted how concentrated the emerging market rally was last year. Michael Bourke, manager of the M&G Global Emerging Markets fund, said “two markets, Korea and Taiwan, drove essentially 50% of [2025’s] rally”.
Most of this was in turn driven by “essentially three companies, the epicentre of the AI trade,” said Bourke.
According to data from FE fundinfo, the MSCI EM Information Technology index surged 43.6% last year, outperforming its wider counterpart by more than 19 percentage points.
“That raises risks in terms of the sustainability of the key driver of the AI trade,” he added.
After a year of sharp earnings growth and multiple expansion, investors will need to see some earnings growth start to come through to justify the optimism, the M&G manager conceded.
But for Cusana Capital’s Marshall-Lee, the danger of following the benchmark is that it is dominated by some “low-quality” and cyclical companies.
Many of the tech companies that rose to the top last year were “actually fairly mediocre,” he said.
Most tech businesses in emerging markets lack reliable moats because they are competing in the same space, which means they end up looking “relatively the same”.
Even very popular stocks such as SK Hynix and Samsung are arguably examples of this, he said. “Hynix’s margins rose by around 17% in a few months, and profit estimates rose very rapidly,” Marshall-Lee added. “That can reverse in the future, you just don’t know when.”
This is inevitable because both companies compete with TSMC, which currently has a market monopoly, according to the manager.
“If you’re one of three companies within memory, and you’re not the leading one, when you expand all your capacity and demand starts to slow down, your operating margins will drop through the floor.
“It’s not that there aren’t great companies in tech, there’s just a lot of rubbish ones. The rising tide has led to a lot of rubbish boats floating to the top.”
Opportunities beyond the concentration
That said, while there are risks from a concentrated EM rally, managers agreed there are plenty of opportunities.
M&G’s Bourke described his team as “fairly relaxed” about the opportunity set, despite benchmark concentration, owing to a positive structural backdrop.
While the market has rallied around a handful of companies/countries, there are still good opportunities in areas investors are underexposed to, according to Bourke.
For example, within the M&G Global Emerging Markets fund, there is a 5.6 and 4.8 percentage point overweight to Brazil and Indonesia, respectively.
“We’ve seen the real estate challenge in China abate somewhat and commodities are a tailwind,” he continued. “The earnings picture is stronger than it’s been in quite some time, and that is still the case despite recent events.”
Isaac Thong, manager of the Aberdeen Asian Income fund, agreed with Bourke that the broader outlook still looks appealing.
“If the Middle East conflict proves to be short-lived, which is in our base case, then the growth in Asia that we expected should return,” the Aberdeen manager said. “Little has changed fundamentally in this region except for the prices of commodities recently.”
See also: Investors wrong-footed again as US-Iran deadlock sends oil soaring
Cusana Capital’s Marshall-Lee was similarly quite positive on the opportunity for active investors to make a difference in the region. “The quality and macro behaviour of emerging markets actually looks much better,” he noted.
Coupled with favourable demographics, such as more youthful populations and improved corporate governance in some places, there are still plenty of long-term opportunities in EM, he said.
“There’s a bigger gap between the good companies and the bad companies; you’ve just got to find the good ones,” he said.
See also: Fidelity: Treating emerging markets as a single asset class is less effective
