Emerging markets 2026 outlook

The new year has started with a notable surprise following events in Venezuela. This rapidly evolving situation, with potential implications for Latin America and the broader global landscape, has introduced new uncertainty that could affect valuations and fundamentals across a range of developed market (DM) and emerging market (EM) countries. While the full impact remains unclear, these developments reinforce the importance of evaluating EM investment opportunities against a shifting geopolitical and macroeconomic backdrop. Within this context, we present our current views on the asset class.

We viewed 2025 as the beginning of a favorable multi-year window for EM outperformance, driven by attractive valuations and a supportive macro environment. After a stellar year, we believe our thesis that EM is “coiled for a comeback” remains intact and has more room to run. Growth across many EM economies has continued to outpace that of DM economies, as disinflation has progressed without destabilizing activity and real policy rates have remained elevated because central banks have maintained relatively restrictive monetary settings despite recent cuts.

Technicals also remain supportive, with relatively low crossover participation in local markets and EM high-yield credit. At the same time, the US dollar remains historically strong, which creates scope for selective EM foreign exchange (FX) outperformance rather than requiring a broad-based dollar reversal. Frontier markets that initially came under stress in 2024 have retained market access and extended maturity profiles, with many anchored by strong International Monetary Fund (IMF) program performance. Reform momentum through 2025 has supported ongoing disbursements and improved investor confidence.

Looking ahead to 2026, we expect hard-currency performance to be driven more by carry than by further broad-based spread tightening. Many of the sovereigns in which we have been overweight have already tightened meaningfully, reflecting tangible improvements in fiscal positions and favorable terms-of-trade dynamics linked to commodity prices. Within investment-grade sovereigns, we still see room for selective tightening and continue to view the segment as a useful portfolio diversifier. For example, China sovereign debt trades currently around T-50 (i.e., 50 basis points lower than the comparable US Treasury), and given fundamentals we see scope for issuers such as Qatar to move closer to levels consistent with stronger credits, potentially tightening from roughly T+45 toward T+15 over time.

In Latin America, the risk and reward picture is highly differentiated. Starting with Venezuela, the situation on the ground remains highly complex. Venezuela’s sovereign bonds and those of its national oil and gas company, PDVSA, have rallied in recent weeks on expectations that regime change could accelerate the timeline for debt restructuring discussions and improve potential recovery values. Should Venezuelan or PDVSA bonds rally into the 35- to 45-cent range, we would consider reducing exposure toward market weight, as this approximates our base-case recovery valuation. Importantly, any restructuring remains a multi-year process. A democratic transition, IMF re-engagement, sanctions relief and the return of international oil majors would all need to materialize. The presence of Russia and China as major creditors further complicates negotiations. Our base case assumes a timeline of two to three years at best, consistent with recent precedents such as Zambia.

Trinidad and Tobago is another country where Venezuela-related risks warrant monitoring. We have maintained an underweight there given its proximity and exposure to potential retaliation from the Venezuelan military, as it represents one of the few tangible assets within operational range. That said, the United States has reaffirmed military cooperation with Trinidad and Tobago and has boosted defensive capabilities in recent months. We view the probability of direct conflict as low, but it remains a tail risk worth watching. Once near-term uncertainty fades and the risk of military targeting dissipates, we may consider moving toward at least a market-weight position, as valuations screen cheap absent conflict risk.

Colombia also remains a key focus. President Petro is likely to be among the most outspoken critics of US actions in Venezuela, and we expect verbal escalation between Washington and Bogotá over the coming months. That said, Colombia’s electoral calendar is an important moderating factor. Elections begin in May, with a new government taking office in August, and long-standing military and law enforcement cooperation between the two countries remains strong. Risking those ties to confront a lame-duck administration would appear irrational. The downside risk is that an extended exchange of rhetoric could bolster left-wing momentum ahead of the elections. While center-right parties currently lead in the polls, the political landscape remains fluid. Against this backdrop, we maintain our tactical market weight in Colombia. The Venezuela situation does not materially change our fundamental outlook, but it adds incrementally to an already elevated political risk profile through the June second-round elections.

In Mexico, we are closely monitoring President Sheinbaum’s rhetoric and subsequent policy actions, as her primary concern remains the risk of unilateral US action against cartels on Mexican territory. We anticipate increased public emphasis on anti-narcotics cooperation rather than escalation. A more forceful response would likely emerge only if US attention were to shift toward Cuba under a similar regime-change framework.

In Brazil, President Lula has voiced opposition to the Venezuela operation. The primary implication is a reduced probability of a trade agreement ahead of the October elections, though we continue to view a post-election agreement as more likely. This does not alter our fundamental overweight in Brazil. We continue to favor a tactical overweight, managing political volatility through adjustments to Brazilian real hedging while maintaining an average overweight through the election period.

Among high-beta credits, Argentina and Ecuador delivered very strong performance in 2025 despite volatility and may still have room for further compression, although return asymmetry has become more selective. We also note a group of reform-driven success stories, including Nigeria and Egypt, where spreads compressed meaningfully in 2025 following structural reforms and improved external balances. Carry remains attractive, though less so on a relative basis after the rally. This has led us to increasingly evaluate countries such as Angola and Turkey through a relative-value lens, alongside local carry opportunities where domestic dynamics are improving.

Finally, we continue to monitor prospective rising stars, including Costa Rica, Guatemala and the Ivory Coast, where fundamentals are trending in the right direction and the ratings trajectory appears constructive. While investment-grade status may still be several years away, current valuations imply meaningful upside potential if fundamentals continue to strengthen. The 2025 upgrades of Paraguay, Morocco and Oman to investment-grade illustrate how quickly spread compression can materialize once rating momentum becomes credible.

In EM corporates, investment-grade valuations reached historically tight levels versus DM peers, but the asset class continues to offer incremental spread and carry. Select opportunities remain in the BB and BBB segments across a range of countries. From a sector perspective, metals & mining, utilities and government-linked energy appear attractive, while high-quality financials provide defensive ballast within portfolios.

In the EM currency space, fundamental conditions appear stronger than current valuations suggest. Many EM economies absorbed the post-pandemic inflation shock early by raising rates ahead of DM economies, stabilizing and permitting a smoother easing cycle than DMs. Now that inflation has rolled over, real effective exchange rates (REERs) have remained depressed. This makes EM FX look cheap in real terms rather than simply weak in nominal terms. On a REER basis, this undervaluation contrasts with an expensive US dollar, creating one of the clearest valuation asymmetries in global macro.

We see the constructive case for EM FX as supported by three reinforcing dynamics. First, EM real interest rates remain higher than those in DMs, sustaining an attractive carry advantage. Second, current REER discounts already price in much of the negative outlook, meaning EM currencies do not require a sharp dollar decline to outperform; a stable dollar would be enough for another year of strong returns. Third, after years of heavy capital flows into US assets, even modest diversification toward EMs can have a meaningful market impact.

Importantly, this undervaluation is not driven by weak fundamentals. Balance sheets across many EM economies are stronger than in prior cycles, supported by higher reserves and improved fiscal positions. Commodity exporters benefit from favorable terms of trade, while others gain from supply-chain diversification. Taken together, these conditions leave EM economies better positioned to absorb future shocks and create a more durable backdrop for potential FX outperformance.

Against this macro and valuation backdrop, we remain bullish on EM local markets with overweight rates positions in South Africa, Egypt, Turkey, Mexico and Brazil, while tactically hedging FX exposure in some of these markets given idiosyncratic political risks.