What Are Emerging Markets?

Emerging markets are nations moving from traditional pre-industrial economies toward industrialization. Typically, they feature unified currencies, stock markets, financial backing systems and an increasing standard of living. 

Emerging markets, explained 

The exact definition of an emerging market varies depending on who you ask. But generally, these countries are transitioning from closed to open markets while increasing their citizens’ per-capita incomes. Typically, they also build or promote:

• Economic and educational programs
• Market efficiency, accountability and transparency
• Legal reforms to ensure property rights
• Regulatory institutions and stricter financial standards 

If you want to invest in emerging markets, look toward developing nations like China, India and Brazil.

But note that these changes don’t come without a cost – nor do they happen overnight.  

5 Characteristics of emerging markets

1.    Low incomes

Emerging markets have lower-than-average per-capita incomes, providing incentive for leaders to:

• Create jobs
• Encourage market progression
• Undertake major economic reforms
• Promote higher consumer spending

2.    Rapid growth 

Countries in emerging markets progress economically and often experience an increase in gross domestic product (GDP). High growth can increase competition and yields for businesses and investors. 

3.    High volatility 

High volatility can occur for several reasons, including:

• Natural disasters affecting “traditional” production methods like agriculture and mining
• Marginalized or affected populations rebelling against industrialization
• Corrupt governments sparking social unrest and regime changes
• Foreign and domestic price shocks and instability

Any of these factors alone can lead to high volatility—and many emerging markets are prone to more than one. 

4.    Currency and commodity swings

Because emerging governments don’t have the power to influence price swings, they’re more susceptible to currency risk and commodity swings. Extreme swings often precipitate a bear market and/or economic recessions. 

5.    High potential returns (at high risk)

Economic growth requires a lot of capital, which many foreign investors are happy to provide. However, less-developed infrastructure can make it difficult to make informed trades, sell debt, or otherwise invest in emerging markets. But for investors who do their research, the rewards can be great. 

What this means for you

As a foreign investor, international investments and emerging markets provide an outlet for diversifying your portfolio and potentially reaping high returns. However, these returns come with enormous risks, including:

• Political and/or social instability
• Currency and market volatility
• Illiquid assets
• Lacking or collapsing infrastructure

Additionally, not all emerging market investments are safe or worthwhile. Typically, you want to invest in emerging markets that boast little debt, a growing labor force and minimum corruption or social unrest. 

These markets are also prone to generating panic and speculation. And even relatively stable markets may take decades to emerge, often pockmarked with periods of stagnation. 

Instead of investing in emerging markets on your own, it’s often wise to join a collective (like an ETF or mutual fund). These funds may invest in securities, commodities or debts in developing economies, diversifying risk while offering exposure to emerging markets.