3 Potential Headwinds
Thus, Omicron is a risk to the outlook for emerging markets in 2022. But it’s important to remember that Omicron is just one of the threats facing emerging markets in the year ahead. Even before the emergence of Omicron, there were a few headwinds to the emerging market outlook.
1) Emerging markets were already staring at the prospects of Fed tightening, leading to tighter global liquidity conditions. Inflation was running hot in several emerging markets, especially those in Latin America and Eastern Europe. As a result, they had already started to tighten monetary policies. If supply chains that were already stretched are disrupted yet again, goods inflation could remain elevated for longer, and the shift to service consumption could get postponed.
2) China, which has been a major source of growth globally and, more importantly, for emerging markets, is slowing as it shifts its focus from “growth at all costs” to “common prosperity.” This shift will have broader global repercussions, but many emerging markets are clearly in the line of fire.
3) After a strong year of earnings recovery for many emerging market companies, earnings growth could slow down as the base effects roll over.
Ho, Ho, Ho?
Unless we have a Santa Claus rally, emerging market equities are one of the few major asset classes that could end 2021 in the red or nearly flat. They have underperformed other asset classes since the COVID bottom in 2020, and the emergence of Omicron is certainly not helping with investor sentiment. When the clouds clear, they will have plenty of room to run and could potentially reward long-term investors handsomely. But the waters remain very muddy in the near term, and stormy weather cannot be ruled out. The risks of investing in emerging markets have never been more real, but so is the appeal of investing in economies that have the potential to grow faster than their developed market counterparts but have temporarily fallen out of favor. Selectivity cannot be overemphasized for emerging markets allocation as there are many ways for investors to get blindsided and burned.
