Emerging Markets Lead Global Risk Assets With AI And Brazil Focus

The surprising resilience and long-term potential of emerging markets, particularly outside of China and in specific tech sectors, hinges on a nuanced understanding of valuation, currency dynamics, and the often-delayed payoff of strategic positioning. This conversation reveals that conventional wisdom, which often defaults to the largest market (China) or the hottest trend (US AI), can obscure superior risk-reward opportunities. Investors who can look beyond immediate performance and embrace the patience required for these less obvious plays stand to gain a significant competitive advantage. This analysis is crucial for portfolio managers, individual investors, and anyone seeking to navigate global capital flows with a forward-looking perspective.

The Hidden Advantage: Why EM Ex-China and EM AI Offer a Superior Risk-Reward

The prevailing narrative around emerging markets (EM) often fixates on the largest players or the most visible trends. However, Stratford Dennis, Head of Emerging Market Equities at Goldman Sachs, suggests a more intricate reality. While 2025 was a strong year for EM equities, Dennis remains bullish, projecting another 15% return for the MSCI EM index in 2026 and identifying EM equities as the strongest performing global risk asset over the next decade. This optimism is rooted in attractive valuations, the tailwind of a weaker dollar, and a general underweighting of EM positioning. Yet, the real strategic advantage, he argues, lies in looking beyond the obvious.

China, as the dominant force in EM, presents a complex case. While its performance is expected to align with global EM, Dennis highlights a crucial distinction: the rally in Chinese equities in 2025 was largely driven by multiple expansion. This means that, on a valuation basis, EM ex-China appears more attractive. Furthermore, the weaker dollar, a significant tailwind for EM, offers less exposure when investing heavily in China compared to other EM regions. For those seeking exposure to the AI boom, Dennis points out that while China offers AI opportunities, comparable and more attractively valued exposure can be found in markets like Taiwan and Korea. This suggests a strategic decision point: embrace the diversified, valuation-driven opportunities outside of China for a potentially better risk-reward profile.

"We think that MSCI EM can return another 15% into 2026. And, you know, we actually put out something that is the official house view that EM equities over the next decade should be the strongest performing risk asset globally."

-- Stratford Dennis

The allure of Artificial Intelligence (AI) is undeniable, but the same principle of looking beyond the obvious applies. While US AI stocks have experienced an historic run, EM AI, particularly in China, offers more attractive valuations and has underperformed its US counterparts in recent years. This underperformance, Dennis suggests, presents a compelling opportunity. The "EM AI versus US AI" dynamic mirrors the "EM ex-China over China" thesis: seeking out undervalued segments within a broader, exciting trend. The implication is that the next wave of AI growth might not solely reside in the already-inflated US market, but in regions where the technology is still maturing and valuations are more reasonable.

The Brazil Factor: Delayed Payoffs and Currency Tailwinds

Latin America, and specifically Brazil, emerges as a prime example of how delayed payoffs can create significant competitive advantage. Despite a slightly murkier election picture since Dennis's last appearance, Brazil remains a top choice due to the anticipated 250 basis points of interest rate cuts this year. Historically, high real interest rates in Brazil drove local money into fixed income. As these rates fall, a reversion of capital back into equities is expected. This shift, coupled with potential foreign investment, positions Brazil favorably. The election itself, while a source of uncertainty, also presents a potential catalyst if a market-friendly candidate emerges victorious.

This situation exemplifies how conventional wisdom might shy away from perceived political risk, missing the opportunity created by a significant monetary policy shift. The real advantage lies in anticipating the capital reallocation as interest rates decline, a process that unfolds over time and requires patience.

"What we saw over the past few years is that Brazil has, you know, some of the highest real rates in the world, and, uh, the vast majority of local money went into fixed income because of that. As you get these cuts, we should see a reversion of that move."

-- Stratford Dennis

Mexico, in contrast, is viewed as market perform, with clarity on the USMCA expected later in the year potentially providing a catalyst. However, Brazil’s combination of anticipated rate cuts and a market that has been overlooked by both local and global investors presents a more compelling risk-reward proposition. The opportunity in Brazil is not about immediate certainty, but about positioning for a predictable economic shift that has been discounted by the market.

The Trade: Embracing the Unloved and the Undervalued

Dennis’s ultimate trade recommendation centers on EM AI-related stocks, emphasizing their underperformance relative to US peers. With estimated earnings growth of 30% year-over-year in EM AI, compared to 20% in the US, and cleaner positioning, this segment offers a compelling narrative. The custom EM AI basket, with global exposure primarily in China, Taiwan, and Korea, but also including Southeast Asia and Latin America, encapsulates this strategy of diversified, yet focused, investment in a high-growth sector.

The conviction in Brazil as a favorite country pick underscores the theme of embracing the "unloved" and undervalued. The combination of central bank action, a forgotten market, and the potential for an election-driven upside surprise makes it, in Dennis’s view, the most attractive risk-reward opportunity globally. This is not a trade for those seeking immediate validation, but for those who understand that true alpha often emerges from patiently waiting for the market to recognize overlooked value.

Key Action Items

• Immediate Action (Next Quarter):
  • Review existing EM equity allocations, specifically assessing overweight positions in China.
  • Research EM AI stocks in Taiwan and Korea for valuation advantages compared to US counterparts.
  • Analyze Brazil's fixed-income market to understand the current yield environment and potential for capital reallocation to equities.
• Short-Term Investment (Next 6-12 Months):
  • Initiate or increase positions in diversified EM ex-China equity funds.
  • Explore specific EM AI-focused ETFs or actively managed funds.
  • Begin building a position in Brazilian equities, anticipating interest rate cuts and potential currency appreciation.
• Long-Term Investment (12-18 Months and Beyond):
  • Maintain a strategic overweight to emerging markets, focusing on countries with favorable demographic trends and improving economic fundamentals.
  • Continuously monitor the political landscape in Brazil for catalysts that could accelerate market performance.
  • Hold EM AI positions, recognizing that the full payoff from this technology adoption will likely extend over several years.