Emerging Markets Rally: Can It Last?

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  Published in Stocks and Investing on Thursday, February 26th 2026 at 10:25 GMT by The Globe and Mail
      Locales: CANADA, UNITED STATES

Emerging Market Equity Rally: Examining Sustainability and Future Prospects

Emerging markets (EM) have been the star performers of the past year, delivering returns that have significantly outpaced those of developed economies. This surge has prompted a critical question among investors: can this remarkable rally continue, or is a correction on the horizon? As of today, February 26th, 2026, the MSCI Emerging Markets Index has climbed nearly 25% in the last 12 months, dwarfing the approximately 14% gain seen in the S&P 500. This disparity demands a closer examination of the factors driving this performance and the potential headwinds that could derail it.

Several factors have fueled the recent EM equity rally. A key driver is the easing of inflationary pressures across many emerging economies. This has prompted several central banks to signal potential interest rate cuts, a move that typically boosts equity valuations. Furthermore, there are tentative signs of recovery in the Chinese economy, a crucial engine for global growth, and a relative stability in commodity prices, benefiting resource-rich emerging nations. These tailwinds have created a favorable environment for EM equities.

However, the path forward isn't without its challenges. Geopolitical risks remain pervasive, impacting investor sentiment and potentially disrupting trade flows. Several emerging markets continue to grapple with substantial debt burdens, making them vulnerable to economic shocks and currency fluctuations. While valuations aren't currently mirroring the extremes seen during the dot-com bubble, they are undoubtedly elevated, suggesting that much of the positive news is already priced in. This raises concerns about whether there's sufficient room for further substantial gains.

Kevin Ewing, a portfolio manager at Bank of Nova Scotia, believes a moderation in the rally is likely. He notes that current valuations reflect a considerable degree of optimism, limiting the potential for continued rapid upside. Interestingly, BNS, despite previously maintaining an underweight position in emerging markets, has recently begun to cautiously increase its exposure, capitalizing on what they deemed an overreaction during a recent sell-off. Ewing anticipates continued outperformance relative to developed markets in the long term, but doesn't foresee a repeat of the previous year's exceptional returns. This nuanced perspective encapsulates the current market sentiment: cautious optimism.

The relative under-ownership of EM equities by many investors is another factor potentially supporting the rally. This suggests there's still a pool of capital that could flow into these markets, providing further upward momentum. However, analysts consistently caution about increased volatility. Emerging markets inherently carry a higher degree of risk than their developed counterparts, and unforeseen events can trigger sudden and substantial market corrections. This risk is amplified by factors such as political instability, currency devaluation, and shifts in global trade patterns.

Looking ahead, investors should consider the specific characteristics of individual emerging markets. Blanket generalizations can be misleading, as economic conditions and political landscapes vary significantly across regions. For example, India continues to present a compelling growth story driven by domestic demand and structural reforms, while Brazil faces ongoing political and economic uncertainties. Similarly, the outlook for Southeast Asian economies differs considerably depending on factors like export dependence and foreign investment inflows.

Furthermore, the evolving global interest rate environment will play a critical role. While rate cuts are anticipated in some emerging markets, a resurgence in US interest rates could dampen enthusiasm and lead to capital outflows. Monitoring the actions of the Federal Reserve and other major central banks will be crucial for assessing the sustainability of the EM rally. The strength of the US dollar is also a significant variable, as a stronger dollar can increase the debt burden for EM countries and negatively impact their export competitiveness.

In conclusion, while the current EM equity rally has been impressive, it's unlikely to continue at its current blistering pace. Expect a more volatile and nuanced environment in the coming months, with periodic ups and downs. A selective approach, focusing on fundamentally strong companies and countries with favorable growth prospects, will be essential for navigating this complex landscape. The future of EM equities isn't a straight line, but a carefully considered allocation can still offer compelling long-term returns.