Tailwinds for emerging markets include the weak dollar and AI spending

Talking Heads with Zhikai Chen

Daniel Morris: Hello, and welcome to the BNP Paribas Asset Management Talking Heads podcast. Every week, Talking Heads will bring you in-depth insights and analysis on the topics that really matter to investors. In this week, we’ll be discussing emerging market equities. I’m Daniel Morris, Chief Market Strategist, and I’m joined today again by Zhikai Chen, Head of Global Emerging Market Equities. Welcome, Zhikai, and thanks for joining me.

Zhikai Chen: Thanks for having me, Daniel.

DM: So far, Zhikai, it’s safe to say it’s been a good year for risk assets overall, a good year for equities and a good year for emerging markets. Now, on the one hand, if we think about the positive macro aspects, we can look at the weaker dollar and lower US treasury yields, which by and large tends to be better for emerging markets. But we have a big elephant in the room. In terms of tariffs, maybe there’s a small mercy in so far as the tariffs have been applied universally and not specifically to emerging markets. If you step back, how do you see what’s evolved in emerging markets over the course of the year?

ZC: Emerging markets are up almost 30% so far. And if you roll back to, say, the beginning of year when we were all worried about the tariffs basically crushing global growth, which obviously is bad for emerging markets, investors have now more or less come to see 15 to 25% [tariffs] as acceptable. With the combination of dollar weakness, but a still relatively resilient US economy, that has given a backdrop to the superior performance in terms of the EM equity. Certainly out in Asia, we also had a good push in terms of the artificial intelligence capital expenditure story. Asia is going to be the AI capex supply chain globally. That has been a strong factor in terms of the outperformance that we’re seeing in emerging markets so far.

DM: You mentioned AI and we appreciate that’s a pretty important topic. One thing I’d like to highlight to our listeners is that we all have a tendency to focus on that in the US. A lot of listeners probably don’t realise how critical that’s been for EM returns as well. Not over the last couple years, technology has been the primary contributor to the gains in emerging markets. You mentioned capex. What are some of the other angles that you’re looking at?

ZC: We are also looking at the fact that some of the AI capex is pulling a lot of other IT to AI expenditure. And that is predominantly in Asia. We’ve seen this pull up these economies as well as exporters. We had the tests in terms of whether the AI capex has been sustainable, the risk of spending too much. Right now, the risk of missing out has been helpful in terms of pulling up the entire supply chain into various shortages. As a result of this, we have seen strong price appreciation in terms for some of the computer memory players,  especially in South Korea.

DM: We’ve mentioned the weaker dollar. What’s been interesting over the course of the years, even though the dollar has weakened, it actually hasn’t weakened all that much from a historical perspective. Year to date, on a real trade weighted basis, the dollar is down about 6%. More broadly, if we think about the potential impact of a weaker dollar on emerging markets, it’s generally quite positive. If we do see continuing weakness of the dollar, that should be good on EM. How do you think about all of this, Zhikai?

ZC: For emerging market investors, dollar weakness is usually seen through a lens of whether it is in an environment where the US economy is still relatively resilient, which it is. This dollar weakness has advantages for some of the EM central banks because they have more flexibility to manage or mitigate any potential economic downside. Via domestic interest rate accommodation without risking too much on the FX front. They’ve seen this happening with several emerging market central banks reducing their rates even ahead of the September Fed cut.

The other part worth mentioning is that there has been a lot of talk about the de-dollarisation trend. A lot of that is probably overplayed. The dominance of the dollar is still there. We are seeing some reallocations of global investor portfolios and emerging markets has been one area where we have seen significant inflows year-to-date, particularly for economies where the tariff uncertainties have largely been addressed.

DM: If I could summarise some of the key points that you shared with us. You started with the observation that we’ve seemed to have adjusted to tariffs and thankfully the US economy is still resilient and that’s provided support to emerging markets. Of course, AI is a big thing and particularly noting capital expenditures taking place in Asia, not just in the US. In terms of the macro outlook, we highlighted dollar weakness that’s generally good for emerging market equities if it’s also in the context of decent US growth. You highlighted that it does make life easier for central banks, allowing them to cut rates where possible. Well, Zhikai, thank you very much for joining me.

ZC: Thanks for having me,

DM: That’s it for this week’s episode of Talking Heads. If you would like more information about our global emerging market capabilities, please reach out to your BNP Paribas Asset Management contact or check out Viewpoint, our website for investment insights at Viewpoint dot BNP Paribas am.com. We recommend subscribing to Talking Heads on your favourite podcast channel such as YouTube or Spotify. You’ll receive your podcast episodes every week. If you like Talking Heads, leave us a positive review and a nice rating. You’ve been listening to the BNP Paribas Asset Management Talking Heads podcast with me, Daniel Morris, and Zhikai Chen, Head of Global Emerging Market Equities. Please do join me next week. Until then, take care.