Thus far, 2025 has been an annus mirabilis for emerging markets (EM), with the MSCI EM equity index up 17.5% to the end of June.
This stands in stark contrast to the poor performance of recent years, which has seen the asset class largely overlooked by investors.
EM stocks have rarely outperformed their developed market (DM) counterparts over the past decade and a half; when they have, the margin has usually been modest.
Ninety One co-head of emerging market sovereign and FX Grant Webster notes that 2013 was a particularly difficult year for EM.
There are plenty of reasons for excitement as, for the first time in a long while, EM is finally getting the recognition it deserves
This was partly driven by then-Federal Reserve chair Ben Bernanke, who announced that the Fed would, at some future date, begin to reduce its bond purchases.
The announcement came as a surprise to markets that had become reliant on the Fed’s monetary stimulus following the 2008 financial crisis.
In turn, this led to significant market turmoil – particularly for EM, which experienced capital outflows, currency depreciation and a sharp rise in volatility.
Still, as any seasoned investor will tell you, this is a long-term game. Twelve years on from what became known as the Fed’s ‘taper tantrum’, EM return on investment has significantly improved.
Ironically, although it was a decision by the US central bank that negatively impacted EM in 2013, in 2025 it has been a combination of various US factors that has fuelled EM’s rise.
Global capital flows tend to be cyclical as opposed to structural, with capital flowing into EM during periods of US dollar weakness
The MSCI EM stock index is now ahead of the DM benchmark in dollar terms.
Trump’s America
According to Webster, the persistent weakness of the US dollar in 2025 has been the primary driver of EM’s strong performance.
The dollar, when compared against a basket of currencies weighted by the US’s trade volume with each country, was down 7.9% by the end of July.
Nutmeg portfolio manager Bola Onifade agrees that EM has benefited from the weakening dollar. She explains that a softer dollar is typically positive for EM because it reduces the cost of servicing the US dollar-based debt.
Webster adds that, during previous periods of dollar strength, the mindset was generally that any investment not denominated in US dollars was “less attractive”. That sentiment has now shifted.
Liberation Day shifted attention away from the US and towards EM and Europe
Templeton Emerging Markets Investment Trust lead portfolio manager Chetan Sehgal says EM outperformance has also been accompanied by heightened volatility, driven by evolving developments with US tariffs. This has further weakened overseas competitiveness in US goods markets.
An ongoing theme during US president Donald Trump’s non-consecutive second term has been the threat of tariffs. Trump’s “Liberation Day” was announced in April 2025, when he introduced a 10% universal baseline tariff on nearly all goods imported into the US. He also imposed reciprocal tariffs on around 60 countries.
However, just hours after the tariffs had come into effect, and following a public backlash – or people getting “yippy”, in Trump’s words – the president abruptly announced that the reciprocal tariffs would be “paused” for 90 days.
Although the policy itself may be in limbo, the rhetoric has continued and this has had an impact on markets. Webster argues that Liberation Day shifted attention away from the US and towards EM and Europe.
EM monetary policy is supportive, with many EMs cutting interest rates or at the end of their tightening cycle
These developments have played into what Sehgal describes as the “fading US exceptionalism” narrative.
Webster adds that investors had expected US exceptionalism to continue, but the tariffs have weakened that perception – though not eliminated it entirely.
Another contributory factor has been EM monetary policy, which Sehgal describes as “supportive, with many EMs cutting interest rates or at the end of their tightening cycle”.
By contrast, in the US the Fed has kept interest rates unchanged. This has created tension between Trump and Fed chair Jerome Powell, as Trump has openly called for rate cuts.
The Fed’s current interest rate stands at between 4.25% and 4.50%.
A structural shift or a one-off?
Taken together, these developments have led to a realignment in investor sentiment.
According to a Bank of America survey, 37% of fund managers are now overweight in EM equities, with 49% viewing them as undervalued. Meanwhile, a record 91% believe US equities are overpriced.
Still, the question remains: is this a structural shift in global capital flows or a shorter-term cycle?
The persistent weakness of the US dollar in 2025 has been the primary driver of EM’s strong performance
Onifade describes the current bullish attitude towards EM as the result of “a perfect storm of US factors”.
Sehgal, meanwhile, notes that “global capital flows tend to be cyclical as opposed to structural, with capital flowing into EM during periods of US dollar weakness”.
Nevertheless, Sehgal adds: “Fading US exceptionalism may result in a change in this trend, but it will take time for clarity to emerge.”
Sarasin & Partners multi-asset portfolio manager Tom Kynge describes the current trend as “cyclical with structural potential”.
And Alquity EM team associate portfolio manager Kieron Kader shares the view that it is too early to draw firm conclusions.
However, he says: “There are plenty of reasons for excitement as, for the first time in a long while, EM is finally getting the recognition it deserves.”
Declining dominance?
The US has held the position of the world’s largest economy since the 1890s. Following the Bretton Woods Conference towards the end of the Second World War, a system was put in place that pegged other currencies to the US dollar.
A softer dollar is typically positive for EM because it reduces the cost of servicing the US dollar-based debt
Since then, the US has dominated global investment flows. However, if that dominance begins to fade, it may open the door for EM to strengthen its position near the top of the global investment landscape – and to build on the momentum it has demonstrated in 2025.
Darius McQuaid is a reporter for Money Marketing
