TheStret

The past few weeks have been volatile for more than just the U.S. equities market.

Following massive sell-offs leading up to the start of 2019, the Dow Jones Industrial Average  plummeted over 300 points on Monday, while the S&P 500 and Nasdaq (NDAQ) followed suit, losing around 1.3% and 0.5% respectively.

Still, while the U.S. markets have been triggered by volatility over recent Fed rate increases (raising the rate from 2.25% to 2.5%) and a government shutdown spurred on by debates over a government-funded border wall, emerging markets are feeling the strain as well.

Emerging-market stocks also took a hit in late December. But, what actually are emerging markets, and which countries fall into that category? Better still, how can you invest in them? 

What Are Emerging Markets? 

Emerging markets (or EME, for emerging market economy) are economies of countries that are in the progress of becoming a developed country and typically are moving toward mixed or free markets. Emerging market economies often have lower per capita income than developed countries, and often have liquidity in equity markets, are instituting regulatory bodies and exchanges, and see rapid growth. 

The term "emerging market economy" was first used in 1981 by Antoine W. Van Agtmael of the International Finance Corporation of the World Bank.

Emerging markets have played a large role in stimulating global economic growth, especially after the 1997 currency crisis - which necessitated an overhaul of many emerging market economies to become more sophisticated. 

Around 80% of the world's economy is comprised of emerging markets - including some of the largest countries in the world like China, India and Russia. 

As of 2017, China and India made over $32.6 trillion worth of economic output - while also making up 40% of all labor force and population on the planet. And, according to World Bank data last year, China is expected to represent over 35% of global gross domestic product (GDP) growth from 2017-2019. 

But, why are large countries like China or Russia are considered emerging markets? 

Definition of Emerging Markets

Emerging market countries are those that are striving to become advanced countries and are generally on a more economically disciplined track to become more sophisticated - including increased fiscal transparency, focus on production, developing regulatory bodies and exchanges, and acceptance of outside investment.

Although some countries like China and India have high production and industry, other factors like low per capita income or a heavy focus on exports qualify even large countries as emerging markets. 

Characteristics of Emerging Markets

There are several aspects that characterize an emerging market.

As a preliminary base, emerging markets typically have a lower-to-middle per capita income. This means that the per capita income of the countries' economies is generally lower than other more developed countries like the U.S. or similar countries. For example, the per capita income (PCI) of India in 2018 is said to be around Rs 1,12,835, or around $1,606.54 USD. The PCI is used as one indicator of how prosperous a country is. However, because emerging markets are striving to become more industrialized quickly, they often have higher growth per year than the most developed countries like the U.S. or U.K. 

Additionally, emerging markets typically have some sort of regulatory body as well as a market exchange for investment and a common currency. For example, China has a common currency - the Chinese Yuan, as well as a regulatory body, The China Securities Regulatory Commission. 

While emerging markets often have a higher rate of growth compared to developed countries, they are often plagued by higher sociopolitical instability and volatility. Many emerging markets have military unease and social upheaval that create high volatility. In fact, volatility is a major facet of emerging markets - with things like natural disasters or price shocks affecting growth and the economy. For countries like Thailand or Sudan, droughts or tsunamis drastically impact markets, as both are more traditional economies with a focus on agriculture or natural resources. 

Still, emerging markets are often vulnerable to swings in commodities (like oil or food goods) or other currencies - especially the USD. In fact, the 2008 subsidizing of corn ethanol products in the U.S. caused some riots in emerging markets due to rapidly increasing food and oil prices. Vulnerability to similar changes are due to how emerging markets often do not have as much control over such industries (with the possible exception of countries like China and India, which are among the top producers in the world). 

However, emerging markets generally have lower industrial production compared to advanced economies like the U.S., but typically have liquidity in local debt or equity markets

But unlike developed countries like the U.S., emerging markets often have immature capital markets that pose some risk to investors. Because their markets are still developing, emerging market economies don't often have a lot of information about traded companies on their exchanges, and selling debt (like bonds) is often more challenging.

However, outside investors who are able to research these companies are often rewarded with higher-than-normal returns, making emerging markets a risky yet possibly lucrative investment. This is often due to the fact that emerging markets are typically export-heavy. 

Emerging Markets List for 2019

There is no universal consensus on exactly which countries qualify as emerging markets. However, there are several different lists that have become generally accepted for establishing the emerging market countries. 

According to the Morgan Stanley Capital International Emerging Market Index, 24 developing countries qualify as emerging markets - including Brazil, Chile, China, Colombia, Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Pakistan, Peru, Philippines, Poland, Qatar, Russia, South Africa, Taiwan, Thailand, Turkey, and United Arab Emirates. The index follows the market caps of the companies on the countries' stock markets. 

Additionally, the International Monetary Fund (IMF) has a similar list of 23 countries, although there are some discrepancies in the list compared to the MSCI list. 

Among the IMF and the MSCI, the S&P, Dow Jones and Russell all have lists of emerging markets that follow similar strains, although with some variation. 

However, despite some differences, all of the institutions are at liberty to change their lists, either promoting or demoting an emerging market. 

Emerging Markets and the International Monetary Fund

The IMF, as an international organization designed to help stabilize global economies, has long monitored emerging markets. 

Pakistan is the latest country to seek out an IMF bailout, although several countries over the years have received bailouts from the fund. 

Recently, the IMF released a study wherein it summarized that while emerging markets should survive the recent market volatility, they would face a new crisis of a massive draining of capital out of the countries. In their Financial Stability Report, the IMF delineated several emerging markets especially at risk for contractions, including Argentina. 

According to IMF's managing director, Christine Lagarde, in a speech earlier this year, the building pressure on emerging markets "could lead to market corrections, sharp exchange-rate movements and further weakening of capital flows."

Additionally, according to recent findings, the IMF released charts examining the global economy - which showed that the past year has seen slowed industrial production and trade since 2017, increased trade policy uncertainty, and increased strain on emerging markets over the strengthening of the USD. 

Emerging Markets News 

The U.S. market has been in a major meltdown in recent weeks - and it's affecting emerging markets as well.

Rising tensions and volatility over recent Fed rate increases has spilled over in to uncertainty abroad, as emerging markets' stocks have taken similar hits.

Additionally, with the recent economic boom coming from U.S.'s corner of the globe, emerging market economies have found themselves bleeding investors - signaling something akin to a market meltdown in some emerging markets, according to The Guardian earlier this year. 

"More pain seems to be ahead for emerging markets as the combination of global trade tensions, prospects of higher U.S. interest rates and overall market uncertainty haunt investor attraction," Lukman Otunuga, research analyst at currency dealer FXTM, told The Guardian in September. 

To make matters worse, emerging markets are baiting their breath prefacing several events that Bloomberg delineated this week as deciding factors in the recent market turmoil, including "Egypt's interest rate decision, Brazil's budget balance and Argentina's economic activity index."

Investing in Emerging Markets

Still, some investors remain bullish on emerging markets and their profit potential.

Because emerging markets are so focused on growth (and, on average, have a higher growth rate per year than developed countries like the U.S.), they often deliver higher return potential and higher capital gains. 

If you're looking to invest in emerging markets, TheStreet designated the 10 best emerging markets ETFs for 2018 - including iShares MSCI Russia  (ERUS) , WisdomTree Middle East Dividend Fd  (GULF)  and iShares Emerging Markets Dividend  (DVYE) . 

While investing in emerging markets can help diversify and boost your portfolio due to how motivated emerging countries are to becoming advanced through commodities and production, they remain relatively risky investments because of their volatility and frequent political or economic instability.