Underperformance in emerging markets (EM) is likely to stay, according to ING Investment Management. Its latest investment view paints a gloomy picture for EM equities, although the asset manager says India, Mexico and Turkey continue to offer opportunities.

Since the beginning of the year, emerging market equities have underperformed developed equities by 12 per cent, the manager says – part of a “longer-term underperformance trend” that started in October 2010.

“The main reasons are a deteriorating relative growth picture vis-à-vis the US and Japan, deepening concerns about the sustainability of high Chinese demand growth, a growing emerging market dependence on portfolio investment flows and the pressure of the weakening yen on Asian currencies and growth,” ING Investment Management senior emerging market equity strategist Maarten-Jan Bakkum said.

However, the manager remains overweight in Mexico, India and Turkey – the latter two despite large current account deficits. In India, it says, weak domestic demand growth and a competitive currency are seeing the trade and current account deficits start to narrow, while the government has kept a focus on fiscal consolidation. The result is inflation coming down now, which ING predicts will see the central bank able to continue cutting interest rates in the coming quarters. Recent declines in the oil price added to the good news for the country – also a factor in Turkey, where it should offset the impact of rising energy imports in as domestic demand grows.

Bakkum continued: “In the current environment of low investor risk appetite towards emerging market equities, we feel it is becoming increasingly important to be aware of the country sensitivities to the main risks.”

Overall, however the outlook for emerging markets is poor. ING expects Chinese growth to decline to five per cent in three to five years; domestic demand, increasingly reliant on new credit and foreign portfolio investment, is likely to decline once the US Federal Reserve reduced quantitative easing; and increasing state intervention in emerging market economies is creating regulatory risk for companies, it argued.

Markets most sensitive to the Chinese slowdown, such as Brazil, those in Asia most pressured by the weakening yen, such as Korea, and markets with the highest external financing requirements such as South Africa and Indonesia, are among those ING is particularly avoiding.

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