EM Equity Strategy Compass
CITI’S TAKE
Despite recent volatility, the MSCI EM is still up c20% YTD, though gains have come from a narrow set of countries/sectors. As in a global context, client conversations are returning to the likelihood of “broadening” performance in 2H26. The success of broadening depends on: (1) cyclical improvement in macro data and EPS revisions, and (2) a sustained pause in Tech outperformance. On cyclical recovery, economic data remains supportive, though EPS revisions are mixed and narrow. On Tech, implied volatility is elevated and AI sentiment has waned, but the sector continues to be supported by standout earnings growth, strong momentum, and attractive valuations. If the macro environment remains favorable, including easing geopolitical risks, there is scope for broadening. We therefore upgrade China to Overweight. At the same time, we tactically reduce exposure to the AI theme, neutralizing Korea (O/W since mid-25) while maintaining an Overweight stance on Taiwan.
Neutral EM — Around the start of the conflict in Iran, we downgraded EM to Neutral in our global allocation. Fundamentals remain strong and the macro backdrop has turned more supportive. But EM remains exposed to the recent step-up in AI volatility along with ongoing macro complexities (geopolitical re-escalation, Fed, El Niño).
Fundamentals: Solid Setup, Narrow Revisions — MSCI EM earnings are now expected to grow at a +63% pace in 26E. EPS growth forecasts have been boosted by 28pp since end-February, with IT responsible for most of the move. EM earnings growth should decelerate to +24% in 27E, remaining well above DM peers. The EM index has de-rated YTD and trades on a 12m fwd PE of 11.5x, in line with LT averages.
Targets: More Upside — We see c12% upside for the MSCI EM to year-end (target of 1,870), driven by solid EPS growth. Citi local strategists see the most upside in Korea, China, and Taiwan. We introduce a mid-27 target of 2,050 (c20% upside).
Key Theme: EM’s Broadening Debate — The durability of the broadening trade rests on (1) signs of broad cyclical improvement and (2) a sustained pause in Tech/AI leadership. On cyclical recovery, we are encouraged by improving data momentum and positive economic surprises. The AI trade will likely remain volatile, but Tech looks increasingly attractive on a fundamental basis and structural AI tailwinds remain in place. This means conditions for broadening are partially met.
EM Country Allocation: Tactically Neutral Korea, Upgrading China — We neutralize Korea in our EM country allocation (Overweight since July 2025), given volatile trading conditions, although the market continues to screen incredibly well in our fundamentals-based models. We upgrade China (to Overweight) and Mexico (to Neutral) as potential “broadening” candidates within EM. We remain structurally bullish on the AI story and maintain our Overweight stance on Taiwan.
Local/Quant/Credit Insights — We survey Citi local equity strategists for their 2H market outlooks. Citi Quant strategists provide an update on factor performance and flows. EM Corporate Credit strategists outline their suggested allocation.
