This top-performing emerging-markets fund manager says his asset class can be an AI play too

A top-performing emerging-markets small-cap fund manager—whose fund was the best performer in its asset class from 2014 to 2024—says emerging markets can play a role in investors' pursuit of AI exposure beyond the US 'Magnificent Seven.' The manager cites tangible signs of progress over the past year and argues that selective EM small caps offer opportunities to tap technology and AI-related growth, implying potential reallocation or increased EM equity interest among investors.

Analysis

Market structure: The immediate winners are EM small‑cap technology and local semiconductor/assembly suppliers (Taiwan/Korea/Vietnam) and niche AI software providers in India and Southeast Asia; losers are passive exposure to U.S. mega‑cap AI if rotation broadens and commodity producers if capex focus shifts (3–12 months). Competitive dynamics favor countries with low incremental capex costs and available engineering talent—this can shift 5–15% of marginal global AI supply‑chain spend toward EM nodes over 1–3 years and compress pricing power for incumbents in developed markets. Cross‑asset: expect tighter EMBI spreads and EM equity inflows to rally local FX; copper and other industrial metals should out‑perform oil in early stages as data‑center construction rises.

Risk assessment: Tail risks include abrupt China regulatory tightening, a US‑China tech embargo, or a USD surge that blows out EM FX—each could wipe 20–40% off near‑term EM tech returns. Time horizons: days — ETF flow volatility and headline risk; weeks/months — re‑ratings as earnings and product cycles land; years — structural capex and talent migration. Hidden dependencies include local power grids, IP transfer rules, and export controls; catalysts that could accelerate adoption are three major AI chip launches or 2–4% pick‑up in global data‑center capex guidance.

Trade implications: Direct: establish a 2–4% portfolio position via EM tech/small‑cap ETFs (EMQQ or VWO small‑cap sleeve) and a 1–2% tactical long in TSM (Taiwan Semiconductor) exposure (TSM) for 6–18 months. Pair trade: long EMQQ (or active EM small‑cap manager) vs short NVDA (size 0.5×) to capture relative rotation; use 3–6 month call spreads on TSM (10–20% OTM) to limit premium. Hedge: buy 3‑month puts on EEM or long UUP if DXY >103 or EMBI widens >100bps. Entry: scale in over 4–8 weeks; target exits at 12 months or on EMBI widening/FX stress triggers.

Contrarian angles: The consensus overlooks governance‑adjusted earnings power in select EM small caps—many trade at >30% discount to developed peers despite higher growth visibility; reaction may be underdone because passive flows are slow to target small caps. Historical parallel: 2004–07 Asia tech outsourcing, but today tighter supply chains and export controls create asymmetric winners. Unintended consequence: a rapid EM inflow could steepen local yield curves and force central banks to tighten, creating a 6–12 month liquidity squeeze — watch monthly ETF flows, EMBI spreads, DXY and local 2Y yields as early warning signals.

Key Decisions for Investors

• Establish a 2–4% tactical long allocation to EM small‑cap technology via EMQQ or an active EM small‑cap fund (target holding period 6–18 months); scale in over 4–8 weeks and size to 2% initially, add to a 4% max on positive flow/earnings confirmation.
• Add a 1–2% direct position in Taiwan Semiconductor (TSM) or equivalent EM semiconductor suppliers; complement with 3–6 month call spreads 10–20% OTM to express upside while capping premium; target profit take at +30–50% on option spread or 12‑month stock gain.
• Execute a relative‑value pair: long EMQQ (or active EM small‑cap tech) vs short 0.5× NVDA to hedge beta to AI mania; rebalance monthly and close the pair if NVDA underperforms by >15% or EMQQ outperforms by >20% in 3 months.
• Hedge macro tail risk: buy 3‑month puts on EEM (5–10% OTM) or long UUP if DXY breaches 103, or purchase protection if EMBI spreads widen >100 bps from current levels — trigger to increase hedge size by 50% if FX or EMBI signals hit.
• Reduce passive broad EM beta by 25% if local 2Y yields rise >75 bps in a month or if monthly ETF outflows exceed $1bn; redeploy proceeds into selected liquid EM small‑cap managers with active stock selection.