Elections 101: Could the dust be settling favourably for emerging market equities?

In a record year for elections worldwide, so far investors have been remarkably serene about the prospective outcomes. Despite initial concerns around heightened volatility as voting deadlines loom in major developed and emerging markets, financial markets, thus far, have generally kept their calm with almost half of the year behind us. Amidst this, we believe the political shifts brought on by recent ballots, however subtle, could open up new prospects for investors in emerging markets.

“We have seen the options market explode higher in India – it is now the largest daily derivatives market in the world according to the Futures Industry Association.”

High valuations in India

Prime Minister Narendra Modi's third consecutive victory was widely expected, but we saw a much tighter margin of victory than the exuberant exit polls suggested. The market pulled back substantially in response, but subsequently surged over the week, adding to volatile conditions.

We believe the Indian stock market's premium valuation requires the validation of the growth narrative to sustain it. Retail money has been investing at record levels and, in our view, the market is vulnerable to any disappointment, perceived or otherwise. We have seen the options market explode higher in India – it is now the largest daily derivatives market in the world according to the Futures Industry Association (FIA)¹. This development, we think, signals excessively high valuations and over exuberance. 

Modi represents continuity of the reform agenda, but the market will want to see execution of his policies, especially on the infrastructure side. In some ways, there is the opposite problem in China, where we see too much infrastructure spending and an overly timid consumer. We see far greater relative value in Chinese equities at the present time, but will remain watchful in India, particularly in these times of heightened volatility. 

Pullback in Mexico

Again, while widely anticipated, the sheer scale of Claudia Sheinbaum’s victory in Mexico’s presidential election has caught the market by surprise, sending stocks lower and the peso down against the US dollar. 

Her Morena party has won a super-majority in the lower house of Congress, but not the Senate, falling just short of the two-thirds majority needed in both houses to change the constitution. 

This latter point had deeply worried the market, given the strong anti-capitalist tone in some of the new president’s policy proposals. Time will tell whether Sheinbaum follows her own path or sticks to the playbook of a muscular state and military interventions over Mexican economic affairs.

We feel Mexico’s stock market was vulnerable to a pullback – having delivered solid gains in 2023 – and the recent drop also reflects a somewhat crowded market positioning, given the high real yields and the nearshoring narrative of the last four years.

End of an era in South Africa

Perhaps the most eye-catching result has been the African National Congress (ANC) losing its majority for the first time since South Africa emerged from apartheid. Africa’s oldest liberation movement, founded more than a century ago, received 40.18% of the votes cast in the election on May 29. 

The formation of former ANC President Jacob Zuma's party, uMkhonto weSizwe (MK), in December 2023 played a significant role in this outcome. MK has captured a nearly 15% vote share in its first outing, coming third in voters’ preferences, with the ANC losing key battlegrounds such as the KwaZulu Natal province. We recall the halcyon days of South African President Cyril Ramaphosa’s rise to head the ANC in February 2018 and his subsequent election as president. The market was hugely relieved to move on from Zuma's chaotic reign and rallied strongly. At that time, we chose to reduce exposure as we thought real reforms would take time and that South Africa’s problems were not easy to resolve. We take no joy from seeing that reality play out.

One month after the election results, President Ramaphosa has revealed a new multi-party cabinet, which was formed after his ANC party and nine other parties reached a coalition agreement after weeks of deliberation. Back in May, market reaction to the shock ANC loss of seats was negative. However, there was a significant upswing in South African assets following the President's announcement of his newly appointed cabinet, which includes the opposition leader of the pro-market Democratic Alliance (DA) and retains his previous finance minister. The surge reflects the market's optimism in response to the president's commitment to maintaining fiscal policy continuity. Today, South African assets are much cheaper than they were then and so is the rand in REER (inflation-adjusted) terms. 

Despite difficulties, we see the greatest potential in South Africa. Asset valuations are relatively depressed, while cash flow return on investment has remained fairly stable.

The value of investments will fluctuate, which will cause prices to fall as well as rise and investors may not get back the original amount they invested. Past performance is not a guide to future performance. The views expressed in this document should not be taken as a recommendation, advice or forecast.