Article by Karl Falzon
Within the context of significant geopolitical concerns and ongoing energy price shocks, the generally buoyant sentiment in financial markets could be considered as counterintuitive. Instead of caution, investor sentiment seems to be gripped by optimism and a sense that today’s challenges are more likely a blip in an otherwise constructive scenario. Developed markets equities may be dominating headlines, with US equity markets again hitting record highs earlier this week. However, it may also be relevant to assess developments in emerging markets (“EM”), where assets in this space have benefited from remarkable resilience, which indeed could be considered as even more surprising.
Taking a step back, prior to the eruption of the Iran crisis emerging markets had been on a strong run since at least 2025. Economic resilience (even in the face of uncertainty around tariffs and their impact on global trade), a weakening US dollar, expectations for a downside trajectory in US and Euro interest rates, were some of the factors providing support.
The onset of the war as from end February, could have been expected to present a particularly adverse scenario for emerging markets investors. Comparable episodes in the past, entailing surges in oil prices, inflationary pressures, and rising benchmark yields, often led to protracted losses and worsening prospects. On the other hand, in line with their developed markets peers, emerging markets have generally performed well following initial jitters. The almost 20% rebound in the MSCI Emerging Markets Index since recent lows reflects an outperformance of most developed equity markets. In fixed income, spreads did widen but the cushioning from “carry” allowed for orderly market movements and relative stabilization, particularly in comparison to historic reactions during times of heightened volatility.
It seems that investors are so far looking beyond current challenges, and more so, are displaying conviction in the progress undertaken by several countries in the emerging markets category over the years. In recent decades, particularly in the aftermath of crises during the 1990s, a number of economic improvements and reforms have been implemented. Reliance on borrowings denominated in foreign currency has generally declined. This was driven by the development of local capital markets, allowing governments to borrow from domestic investors. Whilst local currency borrowing is still a burden for any government, the expansion of this option has reduced vulnerability to overseas developments and to shifts in global investor sentiment (which is particularly relevant in the case of portfolio investors, compared to foreign direct investment).
On average, emerging market countries have also built up their foreign exchange reserves, adding a further level of sustainability and capacity to withstand gyrations and external shocks. In fact, currency management, and intervention where necessary, has also improved. This aspect is also related to the above observation on the proportion of foreign currency borrowings, whereby previous emerging markets crises were often characterized by vicious cycles in which currency depreciations led to more punitive foreign debt burdens, in turn causing additional rounds of currency weakness.
Structural improvements could also be noted in terms of more appropriate economic management, fiscal positions, monetary policy making, and rule of law. Enhanced central bank independence is a salient example of a development that boosts credibility. Beyond the direct impact on sovereign profiles, EM corporate sectors have also benefited. EM corporate debt (particularly hard currency debt issued in widely accepted major currencies) has become an increasingly prominent asset class, with many studies indicating that fundamentals such as leverage levels, actually compare favorably to those in developed economies.
Interestingly, whilst often facing significant criticism at the time, one may acknowledge that International Monetary Fund (“IMF”) programs did contribute to wide ranging improvements over the long term.
On the other hand, even though the overall narrative is one of resilience, investors should note that there are variations between EM countries that still impact relative prospects. Countries are not facing the current challenges from the same position and inevitably, those that are heavily reliant on oil imports, deserve particular attention. One example is India, with the Rupee currency approaching record lows and its equity markets experiencing notable outflows. More generally, financial conditions could still tighten further. Therefore, emerging markets investors are urged to avoid complacency, but ultimately this also applies to more developed markets.
Karl Falzon is head of capital markets at Curmi & Partners Ltd.
The information presented in this commentary is solely provided for informational purposes and is not to be interpreted as investment advice, or to be used or considered as an offer or a solicitation to sell/buy or subscribe for any financial instruments, nor to constitute any advice or recommendation with respect to such financial instruments. Curmi & Partners Ltd, with registered address Finance House, Princess Elizabeth Street, Ta Xbiex, Malta XBX 1102, is a member of the Malta Stock Exchange and is licensed by the MFSA to conduct investment services business.