Aberdeen: Are emerging markets at the start of a new cycle?

April 30, 2026

Emerging market equities surged in 2025, driven by easing conditions and structural tailwinds. The key question: is this a durable cycle, or a peak in disguise?

By Devan Kaloo, Global Head of Equities and Head of Global Emerging Markets Equities, Aberdeen

Emerging market equities have rallied strongly in the past year. Is this the start of a longer cycle, or is the market approaching its peak?

We see 2025 as the start of a more sustained cycle rather than the peak. Emerging markets (EMs) had a blockbuster 2025, outperforming developed markets for the first time since 2020 despite heightened geopolitical tensions.

The rally was driven by three factors: tariff rates became more predictable, easing uncertainty and puncturing American exceptionalism; AI investment surged, boosting demand across North Asia’s hardware supply chains and strengthening confidence in China’s fast-growing AI ecosystem after DeepSeek; and the US dollar weakened amid rising doubts about Federal Reserve credibility and broader US policy direction.

Together, these forces created a ‘Goldilocks’ setup of easier financial conditions without a US recession.

Looking into 2026 – setting the Iran shock aside – the macro backdrop remains constructive: developed-market policy is easing, fiscal support is strong, and global growth is projected at around 3.3%¹, with EM leading. The cycle can continue if earnings deliver.

The main risk is a prolonged disruption to Middle Eastern oil flows, which could be inflationary and growth negative. Our base case remains a contained conflict to which markets can adapt.

Which return drivers matter most for emerging markets: earnings growth, income, or valuation?

The return mix is unusually well balanced. Earnings remain the primary driver, supported by income and valuation. EM combines earnings growth, income, and attractive valuations, with a forward P/E of around 14x² – a clear discount to US equities. This reduces reliance on re-rating for returns. Earnings and dividends can carry much of the load, with valuations providing further upside if sentiment improves and more investors rotate in.

We see the key drivers through three C’s:

• Capex (driving earnings): Today’s cycle is fuelled by decarbonisation, re-industrialisation, digitisation, supply chain reorganisation, and rising defence spending. EM’s industrial depth, technical capability, and resource base position it well to capture this demand.
• Carry (FX and flows): A weaker US dollar eases EM financing conditions and boosts purchasing power. In 2025, EM currencies rose about 6.5% against the greenback³. Structural factors on both sides support this trend: US ‘push’ factors such as fiscal largesse, easier policy, balance-sheet dynamics, and EM ‘pull’ factors including stronger reserves, healthier external balances, savings, and greater financial discipline.
• Cheap (valuation): EM valuations remain appealing. The index trades near 15x earnings and at a 39% discount to the US⁴.

Is EM’s discount to US equities a risk premium or persistent mispricing?

We see the gap less as mispricing and more as a reflection of a fading US premium, with three tailwinds behind US outperformance now weakening:

• Big Tech’s old model is breaking down: US Big Tech grew dominant on an assetlight, high-margin model powered by abundant free cash flow and cheap debt for acquisitions. AI is forcing a shift: firms must now fund their own R&D, and heavy data-centre capex is making them more asset-heavy. They are buying ‘picks and shovels’ from EM, but the returns required to justify that spending remain unproven.
• The era of cheap-debt buybacks is ending: For years, companies lifted EPS through buybacks because borrowing costs less than the earnings yield of retired shares. With higher debt costs, inflation squeezing margins, and US earnings growth slowing relative to EM, that support is fading. At the same time, emerging markets – especially Korea and Taiwan – are strengthening shareholderreturn practices.
• The foundations of USD strength are weakening: The strong US dollar has amplified US equity outperformance by making US assets more attractive. But its strength has relied on oil, Treasuries, and US capital dominance – all now under pressure from geopolitical fragmentation, weaker fiscal discipline, and a less convincing security umbrella. Higher oil keeps near-term dollar demand firm, but longer-term trends may favour more regionalised capital flows. And as EM outperforms, more domestic investors are likely to allocate at home.

Global investment spending is accelerating across infrastructure, defence and technology. Where are EM companies best positioned to capture this capex cycle?

We see three areas where EM companies are particularly well positioned. The first is technology hardware and AI infrastructure in Korea and Taiwan, which should lead earnings growth in 2026 as AI data-centre buildouts continue. AI is only part of revenues, supported by broader electronics and industrial demand.

The second area is re-industrialisation and defence-related manufacturing. Tariff and supply-chain shifts are reducing Chinese competition in certain channels, creating opportunities for Mexican manufacturers and Korean shipbuilding and defence companies. At the same time, Chinese industrial innovation is supporting export growth, especially in electric vehicles into markets such as the UK, Canada, and across EM.

The third is resources for electrification across Latin America, ASEAN, and Africa. Capacity bottlenecks are lifting demand for critical inputs – especially copper, essential for grid and transmission investment. Lowcost, high-quality producers in LatAm are particularly well placed to benefit as electrification accelerates.

Investors increasingly question whether large-scale AI investment will generate sustained profits. How vulnerable is EM to disappointment here?

EM is exposed, but the nature of that exposure is more cyclical and valuationdisciplined than the US mega-cap story. The key risk is a slowdown in capex if AI monetisation disappoints. But this would require widespread cancellations due to no viable monetisation path—still a high bar. We believe EM’s ‘picks and shovels’ remain the most resilient way to benefit from AI until clearer application-level visibility emerges.

Moreover, not all emerging markets share the same exposure. India, Indonesia, and much of Latin America could benefit from an AI-related sell-off given their lower direct sensitivity and more domestically driven growth. This offers valuable diversification within EM for investors maintaining disciplined, risk-aware exposure.

What are the key risks that could derail the EM investment case?

The most significant tail risk is a prolonged disruption to Middle Eastern oil flows, which could push the global economy toward stagflation. Other risks include a stronger dollar, political volatility, and weaker AI-related capex.

In a severe downside scenario, oil prices could spike sharply and stay elevated, worsening inflation and squeezing corporate margins as transport, chemical, and food costs rise. That mix could force central banks into tighter policy even as conditions soften. A classic stagflationary mix.

Whether history repeats is unclear. However, regardless of how the Iran conflict evolves, the shock is likely to accelerate several structural shifts: more diversified energy and supply chains, faster electrification and energy transition, and persistently higher transportation costs as war-risk premia lift shipping and goods inflation.

  
^{1 Source: IMF, January 2026
2 Source: Siblis Research, January 2026
3 Source: Aberdeen, March 2026
4 Source: Aberdeen, March 2026}
 

Read the full interview in Financial Investigator magazine