What Ever Happened to the Fragile Five? Now Among the Top Performers 2
  • Emerging market stocks are attractively valued
  • India and Indonesia are showing some of the fastest growth
  • Modi and Widodo implement difficult, but necessary measures

India and Indonesia are both overweight positions in the Rebeco Emerging Markets Equities portfolio. Just three years ago, both of these emerging economies were members of the Fragile Five, but they have learned their lesson.

”Economic reform mechanisms can take effect quickly if politicians are prepared to take decisive, far reaching and sometimes painful steps. And India and Indonesia are proof of this”, conclude Wim-Hein Pals and Karnail Sagha. ”These countries now have their budget deficits, inflation and currencies under control again.”

These Robeco Emerging Markets Equities portfolio managers suggest that emerging market equities are in the process of making a strong comeback. ”Reform, valuations, earning forecasts and monetary policy are all looking positive and we expect emerging markets stocks to outperform their developed market counterparts in both the shorter and longer term”. says Pals.

The benefits for investors are now twofold, according Pals. ”In the past the GDP of emerging countries grew, but earnings lagged. These are now picking up as well. Stock prices are at very low levels which offers the prospect of attractive gains.

Ex-members of the Fragile Five

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It’s pretty remarkable that India and Indonesia are now two of the top performers. In May 2013, when former Fed Chair Ben Bernanke hinted at reducing the central bank’ s stimulus program, emerging markets plummeted.

The flow of cheap money that emerging economies were using to finance their debts started to dry up. Countries that were heavily dependent on foreign investment to boost growth, such as India, Indonesia, Brazil, South Africa and Turkey were right in the firing line. They had hefty current account deficits. The significant depreciation in their currencies and the absence of foreign investment made it difficult to shore up their deficits. The Fragile Five were born.

In 2014, India and Indonesia (and Brazil too) held elections. In both countries the scenario was similar – parties that had been in office for a long time were up against ambitious newcomers wanting reform. In India, neoliberal Narendra Modi took the helm and in Indonesia Joko ‘Jokowi’ Widodo won the race. Both reformers have instilled hope in their fellow countrymen that – finally -the high inflation, persistent budget deficits, bureaucracy, corruption and inadequate infrastructure will be tackled in a structured manner.

Structural economic change

Two of Widodo’s far-reaching measures are the abolition of fuel subsidies and the introduction of a tax amnesty. Pals: “The fact that fuel prices are no longer being kept at artificially low levels will save the Indonesian treasury billions. The tax amnesty caused a capital flight in the opposite direction. Indonesians who had deposited their capital offshore to avoid the negative effects of a depreciation in the rupiah were able to repatriate their assets without being penalized. Widodo also has a clear anti-inflation policy.”

In India too, structural changes are happening. “Modi has introduced social security numbers so every Indian has now been given a social and fiscal identity. This reduces bureaucracy and corruption as subsidies and benefits can now reach the right people far more directly “, explains Sangha. “Another important, upcoming reform is the implementation of a national VAT rate. This will simplify trade between the independent states in India that still apply their own tariffs.”

Modi also wants to attract foreign investment. Sangha: “Modi argues that everything that India imports could also be made domestically. It has become easier than it was in the past for foreign companies to operate in India. 11 India also has an energy subsidy and Modi is abolishing that too. The sharply lower oil price is a favorable factor in this respect. He is also investing heavily in infrastructure.

India is further on than Indonesia

Neither the Indian or Indonesian  economies are dependent on exports to China and have therefore suffered less as a result of the economic  slowdown the.re than other emerging countries such as South Korea. They are also not raw material exporters to the extent that Brazil and South Africa are, so the significant fall in commodity prices like iron ore, oil and gold has not affected them so negatively. “However, in the past they were notable to benefit from the Chinese economy’s booming growth either”, notes Sangha. “And as an exporter of rubber and palm oil, Indonesia has been negatively impacted by the decline in commodity prices.’’

Pals and Sangha  feel that  reform  in India is  further  advanced  than  in Indonesia. “The necessary investment in freeways, railway and subway lines, ports and airports have been made, but it will be a few years  before the Indonesian economy sees the benefits”, says Pals.Sangha thinks that India’s greatest challenge is to help its population find work. “The working population will grow sharply in the next ten years and 100 million people will need to find jobs to avoid the risk of social unrest’’

Attractive domestic market

At the end of 2015, the first interest hike in the US in ten years triggered the beginning of a recovery in emerging market equities (see graph). And this time the situation is different for emerging countries. “This rate hike happened less suddenly than Bernanke implied it would in 2013 . The financial world  is  prepared for  normalization”, explains Pals. “And the Fed raised rates because the US economy is picking up and that is favorable for emerging market exports. India’s primary exports to the US are IT services, generic drugs and automobile parts and Indonesia’s are rubber, palm oil and electronic equipment.


Indonesia and  India  both  have  huge  domestic markets  of 250  million and  1.2  billion inhabitants respectively and relatively young populations. As a result of this, Pals and Sangha prefer companies with  exposure to this  attractive domestic market with  its  increasingly wealthy  middle class.  Pals: “For  Indonesia these  are financial service providers, telecom companies  and  retailers such  as  Bank  Rakyat  Indonesia, Telekomunikasi  Indonesia and Matahari Department Store.”

“In India we focus on companies catering to the domestic market but also on firms with a strong export base,” adds Sangha “Our portfolio holdings include ICICI Bank, Bharat Petroleum which operates gas pumps and automobile company Mahindra 8 Mahindra.

“While Brazil, Turkey and South Africa are still considered fragile because they are heavily dependent on foreign money, have weak currencies and are struggling with political unrest and/or corruption, India and Indonesia have recovered well. They have learned their lesson. Modi and Widodo didn’t opt for quick populist measures, but implemented thorough and unpopular reforms which will have lasting benefits for their countries.

Robeco is an international asset manager offering an extensive range of active investments, from equities to bonds.

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