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Emerging markets are outperforming developed markets, but analysts argue about the outlook for growth

  • Emerging market GDP grew around 4.5 percent compared to 2.25 percent for developed markets.
  • Hedge funds focused on emerging markets have produced returns nearly three times that of funds focused on developed market.
Cristian Baitg | Getty Images

Emerging markets (EM) have continued to grow faster than developed markets and produced higher returns this year, but analysts have conflicting views about the sector's growth outlook.

EM gross domestic product growth is around 4.5 percent year on year and is holding at its best level since the first quarter of 2015, compared to developed markets 2.25 percent, according to a UBS report. But the report raises concerns about whether or not EM growth can be maintained.

"The question now is whether the strong growth impulse in DM (Developing Markets) can sustain, and further, can it boost broader EM growth at a time when China is likely to slow gradually. Alternatively, can EM excluding China growth find support in its domestic demand, and sustain the complex," said UBS strategists Bhanu Baweja, Manik Narain and economist Arend Kapteyn in a report published Wednesday.

They argue that for greater EM growth, which has so far been driven by trade, there needs to be a pick-up in the credit cycle and investment.

"Thus far trends in EM capacity utilization, industrial production, capital goods imports and the credit impulse don't inspire confidence that such acceleration is at hand."

In contrast, Nick Price team leader of Fidelity's global emerging markets equity team had a more positive view for the sector, stating that EM valuations remain attractive which provides support for the asset class.

"The outperformance in 2017 thus far has come from a very low level after several years of derating," he said in a research note published in August.

"At this stage I see growth in the emerging world as robust, particularly amongst EM manufacturers where GDP growth sits at a premium to the developed world and a recent acceleration can be evidenced."

Despite these contrasting views, EM has proven profitable for investors so far this year.

Hedge funds focused on the region achieved returns of 2.47 percent in August and 14.55 percent year to date in 2017. That's compared to developed market hedge fund returns of 0.41 percent on the month and 5.39 percent year to date, according to a performance report from eVestment published Monday.

"Emerging market strategies again produced returns more than double that of developed market strategies in August, resulting in YTD (Year to date) returns that are nearly three times that of their developed market-focused peers," the report said.

The backdrop to EM has seen solid fundamentals and good results, according to Price.

"I always felt that emerging markets were capable of doing at least as well as developed markets as we headed into 2017, however, the extent to which we've seen outperformance is likely reflective of improving EM profitability after years of decline and cheap relative valuations," he said.