Emerging markets are beating U.S. stocks and bonds

Some unexpected winners of President Donald Trump’s “America first” economic agenda are emerging.

The MSCI Emerging Markets index, which tracks shares in 24 countries, is up 15.3% this year. That’s more than the S&P 500 and the MSCI World index, which tracks large stocks in 23 developed economies. Both are up 7% and 9.5%, respectively. This outperformance is relatively rare: Since 2011, there have been just three years when emerging markets stocks have outpaced either of these indexes.

Bond markets tell a similar story. A JPMorgan index of local currency bonds in large emerging markets is up 11% this year. Meanwhile, the FTSE World Government Bond index and the Developed Markets version are both up by about 7%. The strong performance comes after a turbulent few years for EM bond funds, having undergone persistent outflows.

It's a far cry from the mood in April when Trump unleashed sweeping reciprocal tariffs. It sent investors darting out of emerging markets stocks and bonds, amid fears slow global growth would hurt these economies most.

But, their revival since then has a lot to do with the weakening U.S. dollar. “Both EM stocks and bonds benefit from a direct inverse relationship with the dollar,” says Malcolm Dorson, Global X senior portfolio manager and head of emerging markets strategy. “Given [its] weaker recent performance and outlook, it is no surprise that EMs are outperforming.” 

The world's reserve currency is down 10% this year against a basket of currencies, making it the worst first-half of a year since 1973, when President Nixon delinked the dollar from gold. This reverses its upwards trajectory of recent years — its value has ballooned by one-fifth since 2020. 

Indeed, with EM currencies buoyed by a weakening dollar, it becomes easier for their respective central banks to lower interest rates, explains Dorson. EMs are “enjoying stronger inflation and monetary policy expectations because of their stronger currencies,” he adds, which also leaves local stocks and bonds more attractive to investors.

Explaining the U.S. dollar's descent

The sell-off stems from concerns that the dollar could be less stable as a result of Trump's policies. Most economists had expected that the president’s tariffs would boost the currency. That's because of long-held view in macroeconomics that tariffs reduce demand for imports, so, businesses will exchange fewer dollars for other currencies in order to buy foreign goods. The result: Fewer dollars trading on currency markets, driving up the price.

It's that thinking which led Treasury Secretary Scott Bessant to hypothesize that 10% tariffs would lead to a 4% boost to the dollar. 

But things are not going to plan. Any currency boost has been overridden by market fears that tariffs could slow the U.S. economy’s growth and possibly trigger a recession. In which case, the Federal Reserve would most likely cut interest rates to stimulate economic activity. Lower rates reduce the yield of holding dollars, making the currency less attractive to global investors, leading to the dollar shedding value. So, markets are trying get ahead of this outcome.

On top of this, the Congressional Budget Office estimates that Trump’s “Big Beautiful Bill” will add around $3 trillion to the deficit over the next decade. Overspending can worsen inflation, keeping interest rates higher for longer. Moreover, a rising deficit means the government must issue more Treasuries to fund spending. Surging supply of greenbacks puts downward pressure on bond prices. Anticipating weaker bond markets, investors are inclined to sell their dollars.

All of this unease about the currency and bonds spills over into U.S. equities because suddenly dollar-denominated assets look less safe—on top of fears about growth.

The Chinese tech comeback

Yet, a weak dollar is not the only reason for outperforming EM stocks.

It's a bad time for investors to be calling the U.S. economy's growth into question. That's because Chinese equities—which represent almost one-third of the MSCI EM index weight—have come roaring back this year after three years of decline. It started with Beijing's fiscal stimulus in January: Lawmakers directed state-owned insurance companies and money market funds to inject billions into ailing Chinese stocks. Shortly after, DeepSeek unveiled its powerful reasoning model R1, and shares in Alibaba—the EM index's second-largest constituent—shot up 68% within a month. The debut also triggered a U.S. tech stock sell-off, wiping almost $1 trillion of the S&P 500 in a matter of days

It was around then that China’s president Xi Jinping ended his crackdown on the tech sector, telling businesses to “show their talent” at a meeting with industry leaders. Crucially, this included Alibaba founder Jack Ma, who was previously a target of regulators, and had disappeared for months after critiquing the government. Beijing also announced a “state venture capital guidance fund” in March to bolster emerging technologies, which is expected to attract nearly 1 trillion yuan ($138 billion) over the next two decades.