Quality Stocks in Emerging Markets

Superior returns from betting on good business models?

March 2026. Reading Time: 10 Minutes. Author: Nicolas Rabener.

SUMMARY

  • There is a clear rationale for high-quality stocks in emerging markets
  • However, these stocks gave up most of their long-term outperformance recently
  • The lack of funds in this space is surprising

INTRODUCTION

In our most recent research article (read Multi-Factor Investing in Emerging Markets), we noted that multi-factor ETFs have underperformed in emerging markets, even though academic data from the Kenneth R. French database indicates they should have delivered strong excess returns.

There are several reasons for this underperformance, one of which is suboptimal portfolio construction. While combining uncorrelated factors can provide diversification benefits, we often see asset managers pairing factors, such as value and momentum, that are negatively correlated. Depending on the stock selection process, this can result in factors offsetting each other, effectively producing a portfolio that mirrors the broad market. When coupled with high fees, this setup is almost destined to underperform.

If your goal is to avoid these pitfalls and select a single factor for emerging markets equities, which one should it be?

Setting aside the data for a moment, value may appear unattractive because many emerging market stocks are cheap – but often for a reason, e.g. Russian equities. Momentum can lead to participation in cyclical booms and busts across markets, introducing undesirable volatility. The low volatility factor is appealing, yet it carries the risk of overexposure to low-risk but highly leveraged businesses, which can be sensitive to interest rates and dependent on sound monetary policy – something not always present in emerging markets (hello Argentina!).

By contrast, focusing on quality, particularly profitability, is intuitive: it is a bet on companies with robust business models.

In this article, we evaluate quality stocks in emerging markets.

PROFITABILITY FACTOR IN EMERGING MARKETS

Quality stocks are generally defined as companies exhibiting high profitability and low