Emerging markets

AQR had a good piece on EM allocations, pushing for a much larger SAA weight to the region.

Basic idea is that EM is cheap,

& has a lowish correl to other markets, and equity market vol has declined.

Equally, in our view, it’s also had one of the weaker EPS outcomes, out of all other possible markets.

And is ill-suited to outperform, economically, or otherwise, in a world in which financial conditions are tightening. The below just breaks down eps vs total return vs currency impact.

We are late cycle, with regard to rate hikes. Either inflation is tamed successfully, and rates fall back (soft landing) or tamed unsuccessfully, through recession (and obviously the last possibility is untamed, inflation stays higher, as do rates).

You might say “well, Dave, you’ve got the odds of a soft landing at 60% or so, hence, why not a little more EM if your base case is victory”.

And it is a good point. The portfolio is full of compromise, like an awkwardly fitting suit. The left tail outcomes for EM seem much larger than for the developed world.

So, the exposures we do have, boring perhaps though they may be, reflect that (in our view) more favourable sequencing risk.

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