As every fan of The Hitchhiker’s Guide to the Galaxy knows, the answer to life, the universe and everything is 42. This is widely regarded as a somewhat disappointing conclusion, of course, but we have to take into account the significant scope of the question.

Perhaps only slightly less baffling is the eternal conundrum of what it takes for emerging markets (EMs) to outperform. I could probably give you 42 possible explanations, but I doubt I could offer a definitive response of which Deep Thought would be proud.

This is because multiple factors are at play. They include industrial productivity, valuation dynamics, foreign investor exposure, GDP growth differentials, earnings-per-share momentum and global capital expenditure, to name just a few.

You may think it all sounds a bit complex. It is. It is why the relative attractions of EMs at any given time are not easy to pigeon-hole, less still to elucidate for a broader audience.

That said, if someone were to ask me about EMs’ prospects today, there are a number of reasons for optimism which I would be tempted to highlight above all others. In no particular order, they are as follows.

1. Falling interest rates

Perceptions of any market are inextricably linked to events in the US. It has long been recognised that EMs’ appeal is likely to be heightened when the world’s most powerful economy is experiencing a “Goldilocks” scenario – which is to say it is neither too hot nor too cold.

The US Federal Reserve’s decision to reduce interest rates for the first time in four years lends itself to this ideal. On the one hand, the US does not look set for an imminent downturn; on the other, capital flows into EM assets are likely to escalate as the dollar weakens and US yields lose some of their lustre.

The Fed’s cut should also encourage more EM central banks to accelerate their own policy moves – especially in Asia, where my investment focus lies. In turn, this should stimulate further growth in these markets.

2. Increasing consumption

Consumption rates in many EMs have been outpacing those in developed markets for some time. Rising incomes and expanding urbanisation are among the key drivers of this trend.

Countries such as India, Indonesia and Vietnam are already exhibiting healthy levels of economic activity. This could translate into greater investment over the short-to-medium term as monetary regimes continue to loosen.

Looking much further ahead, spending patterns in EMs are increasingly likely to reflect those of middle-income and high-income economies. According to our projections, Asia is poised to lead the world in consumption by the middle of the century.

3. Improving governance

Ambitious governance and stewardship reforms in Japan began to bear fruit in 2024, enhancing businesses’ performance and stirring long-dormant investor interest. South Korea and China are among the Asian economies now trying to follow a similar path.

The former’s Corporate Value-up Program aims to bring about what South Korea’s Financial Services Commission (FSC) has called “fundamental changes in our capital markets”. As part of the initiative, companies are being urged to implement more shareholder-friendly policies.

Meanwhile, China’s State Council wants to create markets that are “secure, regulated, transparent, open, dynamic and resilient”. With this objective in mind, struggling businesses face being delisted if they fail to improve their performance.

4. The AI boom

Against the backdrop of the artificial intelligence (AI) revolution, EMs’ tech capabilities are already acknowledged as vital to global supply chains. Asia is again at the forefront in this respect.

South Korea and Taiwan are major players in semiconductor production. Thailand is making sizeable inroads in the sphere of printed circuit boards. Malaysia is establishing itself as a centre of engineering and software talent. Vietnam specialises in electronics.

Crucially, investments in this arena need not be confined to titans such as Taiwan Semiconductor Manufacturing Company (TSMC). Many of the region’s smaller companies are also riding the AI wave, but they have yet to register on most investors’ radars.

Looking further afield in the investment universe

This brings us back to talk of life, the universe and everything. Anyone keen to comprehend the breadth of the global investment landscape might wish to briefly reflect on how the Hitchhiker’s Guide describes space.

“Space is big,” it says. “Really big. You just won’t believe how vastly, hugely, mind-bogglingly big it is. I mean, you may think it’s a long way down the road to the chemist’s, but that’s just peanuts to space…”

The worldwide array of investment opportunities is also larger than many people think. Diversifying across geographies – including EMs in Asia and elsewhere – can help make portfolios more balanced and resistant to shocks, not least in volatile and uncertain times.

Importantly, it can also be useful to diversify within geographies. In EMs, as in other countries and regions, opportunities can be found all along the market-capitalisation spectrum. Smaller companies and other hidden gems often represent the brightest hopes for long-term growth and performance.

EMs should not be seen as an all-encompassing solution. Like Deep Thought’s 42, they do not hold all the answers. But there is good reason to consider them – particularly now – when seeking to unravel the enduring mysteries of successful investment.

Company/Companies selected for illustrative purposes only to demonstrate the investment management style described herein and not as an investment recommendation or indication of future performance.

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