A new era of US Dollar weakness

A weaker US dollar has historically been positive for emerging markets. As the dollar declines, emerging market currencies tend to strengthen on a relative basis. Stronger EM currencies have several benefits:

• They help to lower imported inflation by making foreign goods and services more affordable, while exporters are able to generate higher real revenue.  
• They reduce the need for central banks to maintain high interest rates simply to defend their currencies. Lower rates provide room for emerging market central banks to stimulate through accommodative monetary settings. In fact, recent broker analysis [1] suggests that approximately 90% of emerging market central banks are expected to pursue interest rate cuts during the second half of this year.
• A stronger currency increases government and corporate borrowing capacity.   

In light of the above, it’s not surprising that there is a historical correlation between periods of US dollar weakness and improved performance of EM equities. 

In Schroders’ view, should this trend of a softer US dollar continue, there is a case that EM equities could deliver relatively stronger returns over the coming period.
 

Attractive valuations

In Schroders’ view, from a valuation standpoint, emerging markets remain notably attractive when compared to their developed market counterparts. 

US equities are currently trading at elevated forward price-to-earnings (P/E) ratios, reflecting both high expectations and increased risk of earnings disappointment. 

In contrast, forward P/E ratios across emerging markets remain under 13 times, a significant discount to the nearly 20 times seen in developed markets [2].  

Moreover, with recent developments such as the post-Liberation Day trend of capital repatriation, Schroders is starting to see international investors re-allocating capital back to their domestic markets. This has bolstered returns in Europe and may serve as a catalyst for renewed investment in EM.
 

Chinese stimulus

A key development supporting EM equities is the wave of monetary and fiscal stimulus emanating from China. Policymakers there have already enacted interest rate cuts, providing a much-needed boost to domestic growth. 

More recently, there is evidence to suggest that China is embarking on a long-anticipated programme of fiscal stimulus. Government bond issuance has picked up markedly since the fourth quarter of last year, resulting in a notable acceleration in China’s Total Social Financing measure—a broad gauge of credit and liquidity in the economy.

After several years of contraction, this renewed credit growth is supporting not only China’s domestic economy, but also potentially generating positive spill-over effects throughout the broader Asian region.
 

A shift back to Chinese private enterprise

Recent political signals also indicate a material shift in China’s approach to private enterprise. Perhaps no act was more symbolic than President Xi Jinping’s highly publicised handshake with Jack Ma, the long-silenced CEO of Alibaba. For years, Ma’s absence from the public eye suggested that powerful private entrepreneurs were unwelcome or even seen as threats to the authority of the state. 

This recent gesture, combined with announcements of policy changes aimed at levelling the playing field between state-owned enterprises and private companies, marks a notable reversal of the ‘common prosperity’ campaign that previously weighed on private sector returns and investor confidence. 

President Xi Jinping has further communicated an explicit commitment to abolish unreasonable regulatory fees and fines imposed on private firms, directly encouraging entrepreneurs to invest and fuel China’s development. 

In Schroders’ view, these changes could create a more favourable environment for equity markets, providing the potential for a re-rating of Chinese stocks.
 

China and artificial intelligence

China is home to several high-quality companies at the forefront of transformative technologies, including artificial intelligence. Yet, in Schroders’ view, valuations of leading Chinese tech companies are nowhere near the levels of multiple re-rating enjoyed by leading US technology names such as the so-called ‘Magnificent Seven.’ 

This divergence may be largely due to investors’ concerns over regulatory crackdowns and doubts about the investability of Chinese equities in recent years. 

However, with the recent retreat from ‘common prosperity’ policies and a new commitment to supporting private business, these well-resourced and innovative companies are now more likely to see a re-rating reflecting their long-term growth prospects. 

It is noteworthy that capital expenditure by these Chinese technology giants has ramped up significantly over the past year, after a prolonged period of relative restraint – an encouraging sign that long-term investments and future growth platforms are already in development within the sector.
 

Risks

Despite the positive factors outlined above, there remain significant risks to the outlook for the Chinese economy and its equity market, which could have flow on impacts to the broader emerging market index. 

While the overall growth picture in China remains healthy, the composition of that growth remains imbalanced, with fixed asset investment remaining benign, and activity in the Chinese property sector remaining weak, with both real estate sales and housing starts at multi-year lows, despite a significant easing of monetary policy over the last few years. 

This has meant that overall Chinese economic growth is becoming more reliant on fiscal policy, rather than the private sector, where demand for credit remains weak. 

Beyond the domestic picture, trade uncertainty and tariffs still linger as a significant ongoing risk for China and emerging markets more broadly. 

At the time of writing, it appears that President Trump is once again threatening to impose tariffs on a number of countries, even in the case of Vietnam, where a trade deal looked to have been announced. [In June and July, the US announced trade deals or in-principle trade agreements with Japan, the United Kingdom and Indonesia and the European Union.]

While China, so far appears to have been spared [in the latest tariff threats], the risk of a re-escalation in trade tensions, which could potentially bring elevated volatility and downside risks back to financial markets, remains a source of uncertainty to emerging markets.

[All emerging markets have individual country-specific and market risks. Do further research of your own or talk to a licensed financial adviser to understand the features, benefits and risks of investing in emerging markets beyond China, such as India, Brazil, Indonesia and Russia. These markets may have higher regulatory, security and currency risks than advanced economies].

Conclusion

If the US dollar continues to weaken, emerging markets may stand to benefit. Renewed currency strength gives emerging market central banks space to stimulate their economies via more accommodative interest rate settings. In Schroders’ opinion, attractive starting equity valuations in EM add to this appeal.   

Crucially, China’s decisive shift in policy - marked by robust fiscal stimulus and a revival of private enterprise – may add momentum to this narrative, with positive spill-over effects possible across the broader Asian region. 

In Schroders’ view, while active management will be key to navigating ongoing risks in EM, the case for including EM assets as part of a diversified, long-term strategy is strengthening.

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[1] J.P. Morgan Mid-Year Outlook 2025. EM Equity Strategy. 

[2] MSCI Emerging Markets Index (USD) as at June 30, 2025. 

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