1. Emerging market (EM) small-capitalisation (small-cap) stocks outperformed their large-cap counterparts over the last six months. A catch up from the sharp underperformance in the first quarter was a key driver of the stronger EM small-cap recovery. EM small caps have attracted less investor attention due to the growing market concentration of performance in a handful of mega-cap companies, as disruption from the Covid-19 pandemic drove interest in technology giants. We believe that the long-term structural story for EM small caps is not undone and remains compelling, underpinned by domestic economic drivers and the consumption growth story. As such, we believe that dedicated small-cap exposure should be viewed as complementary to large caps. ͏͏

2. Despite the COVID-19 pandemic, EMs have shown a continued appetite for structural reforms that could lay the foundation for lasting economic recoveries. China, for example, has stayed true to its longer-term goal of making domestic consumption a major economic engine—and a source of potential ballast during external demand shocks.  India’s sizable fiscal deficit has limited the government’s ability to spend on shoring up its economy. We expect privatizations and other economic reforms to offer more support by attracting investments. The country’s ‘Make in India’ initiative, aimed at growing the manufacturing sector, appears well placed to benefit from several trends.

3. The recent weakening of the US dollar relative to EM currencies can be attributed to the continued challenge of containing Covid-19 in the United States, the unprecedented level of US fiscal stimulus and dovish monetary policy, and market expectations of subsequent fiscal stimulus. The weaker US dollar is generally beneficial for EM equities—and especially Asian equities—with many companies domestically oriented. As such, earnings should improve in US dollar terms. A weaker dollar also gives emerging economies more leeway for fiscal measures.

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