Playing Politics Helps Emerging Market Investors

May 30, 2014 | Nat Kellogg, CFA, President, Director of Manager Search

After a very disappointing year in 2013, emerging market equities got off to a rough start in 2014, underperforming U.S. stocks by 2.2% during the first quarter. However, emerging markets stocks have recently started to show signs of life, up over 5% since the end of March and outperforming U.S. markets. This may come as a surprise to some as the economic data out of China has remained weak and there have been only modest improvements in the current account balances of the “fragile five” (Indonesia, India, Turkey, South Africa, and Brazil). So why the outperformance?

While we mostly focus on economic data and the business cycle to inform our understanding of financial markets, it is important to remember that politics can play a role as well, particularly in emerging markets. This week’s chart looks at the impact of two recent political events on financial markets.

First, the blue line on this chart shows the cumulative price performance, on a quarter-to-date (“QTD”) basis, for the Sensex Index, the main stock market index in India. As the chart shows, improved equity market performance has coincided with the recent Indian election in which Narendra Modi and the BJP party recently won a sweeping victory. Mr. Modi has an impressive record of reform and growth from his days as the Chief Minister of Gujarat and has been elected with a mandate to improve economic growth by cutting red tape and loosening restrictive labor markets.

Second, Gazprom (the largest energy company in Russia) shares have rallied recently ahead of Putin’s much anticipated visit to Beijing. This visit culminated on May 23rd with the announcement that Russia had signed a $400 billion, 30-year pact to supply China with natural gas. Gazprom is the largest natural gas producer in Russia and is likely to be the largest direct beneficiary of the agreement.

India represents 7.08% of the MSCI Emerging Markets index and Gazprom represents 1.27% of the MSCI Emerging Markets index and is the sixth-largest holding in the index. As a result, these recent political developments have had a meaningful effect on the performance of emerging market investors’ portfolios and serve as a reminder that political — as well as economic — developments can drive equity market returns.