Why Emerging Markets Ex-China Remain a High-Conviction Play in 2025

In 2025, emerging markets excluding China have emerged as a compelling investment frontier, driven by strategic sector rotations and the outperformance of active management strategies. While global markets grappled with trade uncertainties and policy shifts, the MSCI Emerging Markets IMI Index surged 12.7% in Q2 2025, outperforming the MSCI World (+11.5%) and S&P 500 (+10.9%) [4]. This momentum, fueled by divergent regional performances and tactical asset allocation, underscores the growing appeal of EM ex-China as a high-conviction play.

Sector Rotation: From Tech to Value and Beyond

The first half of 2025 witnessed a dramatic realignment of capital flows in emerging markets. In Q1, investors shifted away from high-growth technology stocks—previously dominant in 2024—to value and defensive sectors, driven by U.S. tariff policy uncertainty and global economic anxieties [3]. Energy and healthcare sectors, for instance, outperformed, with energy stocks rising 9.03% in Q1 as investors sought stability amid volatility [3]. By Q2, this rotation accelerated, with India and Brazil becoming focal points. The MSCI India Index gained 9.2% in Q2, buoyed by the Reserve Bank of India’s surprise rate cuts and a domestically driven economy less exposed to trade tensions [4]. Meanwhile, the MSCI Brazil Index surged 13.3%, reflecting easing inflation and favorable external dynamics [4].

Active managers capitalized on these shifts by leveraging sector-specific insights. For example, in Asia, where indices like the MSCI AC Asia ex Japan Index are increasingly concentrated (with the top 10 companies accounting for 40% of risk), active strategies identified undervalued stocks outside the index. Attractively valued stocks—measured by price-to-book ratios—delivered 6.3% average gains, outperforming expensive index constituents, which posted losses of 2.7% [1]. This highlights the inefficiencies in EM markets, where limited analyst coverage in regions like ASEAN and Japan’s SMID-cap sectors creates opportunities for active stock-picking [3].

Active Management’s Edge in a Divergent Landscape

The fragmented performance of emerging markets in 2025 has amplified the case for active management. While year-to-date active EM funds lagged benchmarks by 0.71% [1], Q2 saw a reversal, with active managers outperforming the MSCI EM NR USD benchmark [1]. This contrast reflects the dynamic nature of EM investing, where timely sector rotations and regional selectivity are critical.

For instance, active managers navigated U.S. tariff risks by overweighting markets less exposed to trade tensions, such as India and Brazil, while underweighting China-dependent exporters [2]. In India, disciplined stock selection and policy tailwinds—such as infrastructure spending and consumer discretionary growth—enabled managers to capture gains in a market with structural resilience [1]. Similarly, Brazil’s rebound from easing inflation and favorable external dynamics was leveraged by active strategies that prioritized sectors like energy and industrials [4].

The advantages of active management are further reinforced by the structural inefficiencies in EM markets. Analyst coverage remains sparse in many regions, creating a gap that active managers can exploit through deep fundamental research [3]. Additionally, the concentration risks in passive portfolios—exemplified by Asia’s top 5% of stocks driving 80% of the index’s performance—highlight the need for active diversification [1].

Navigating Challenges and Sustaining Outperformance

Despite these strengths, active management in EM ex-China faces hurdles. A February 2025 analysis noted that only 33% of active funds outperformed passive counterparts in H1 2025, a decline of 14 percentage points from 2024 [2]. However, this statistic masks the recent Q2 outperformance and the long-term potential of active strategies in markets with structural growth drivers.

The key to sustained success lies in adaptability. As global trade dynamics evolve and supply chains shift, active managers can dynamically adjust portfolios to capitalize on policy changes and geopolitical trends. For example, the weakening U.S. dollar and double-digit earnings growth projections for EM companies through 2026 [3] present opportunities for active strategies to outperform.

Conclusion

Emerging markets excluding China have demonstrated resilience and growth potential in 2025, driven by strategic sector rotations and the agility of active management. While challenges persist, the ability of active managers to navigate divergent regional performances, exploit market inefficiencies, and adapt to policy shifts positions them to deliver superior returns. As the EM landscape continues to evolve, a disciplined, active approach remains essential for capturing the full spectrum of opportunities in this dynamic asset class.

**Source:[1] Analyzing Q2 2025 active and passive asset classes [https://www.envestnet.com/financial-intel/analyzing-q2-2025-active-and-passive-asset-classes][2] Unlocking Opportunities in Emerging Markets [https://www.gam.com/en/our-thinking/investment-opinions/unlocking-opportunities-in-emerging-markets][3] The case for active investing in Asian equities [https://www.eastspring.com/sg/insights/deep-dives/the-case-for-active-investing-in-asian-equities][4] Turning Tides: EM Equities Are Surging in 2025 [https://www.vaneck.com/us/en/blogs/emerging-markets-equity/turning-tides-em-equities-are-surging-in-2025/]