AI trade keeps capital – and risks – flowing to emerging markets

For the most dramatic change in a benchmark index in financial markets in recent years, look no further than the stock markets of developing economies. Just over a year ago, mainland China and India had a combined weight of 50 per cent in the MSCI Emerging Markets Index. Fast forward to today, and it is South Korea and Taiwan that account for over half of the gauge. At the end of last month, the weight of South Korea in the index stood at nearly 24 per cent, four percentage points more than that of China, whose economy is almost 10 times the size of South Korea’s. The weight of Taiwan’s economy alone stood at 27 per cent. That’s double the weight of India’s 11 per cent. The speed and scale of the shift in the composition of the index attest to the profound impact of the artificial intelligence (AI) boom. As JPMorgan pointed out in a report on May 11, “the Asia [technology] hardware ecosystem sits at the centre of the global AI buildout”. South Korea and Taiwan, the world’s leading semiconductor manufacturing hubs, have led the rally in emerging market equities in spectacular fashion as an AI-fuelled surge in corporate earnings in both markets drives a revival in the stock markets of developing economies. Taiwan’s statistics agency predicts the economy will grow nearly 10 per cent this year, powered by rapid growth in exports stemming from the AI boom. In South Korea, semiconductor exports soared 180 per cent in annualised terms in the first three weeks of this month. South Korean and Taiwanese stocks are up a staggering 61 per cent and 53 per cent respectively this year. “Unlike in developed markets, AI in [emerging markets] is not just a narrative. It is already embedded in the real economy, driving productivity gains, reducing costs and improving margins”, said Carmignac. In a sign of the extent to which Taiwan and South Korea dominate the emerging market equity landscape, three leading chipmakers – Taiwan Semiconductor Manufacturing Company and South Korea’s SK Hynix and Samsung Electronics – have a combined weighting of nearly 31 per cent in the benchmark index. There are a couple of ways to look at the potent forces reshaping the stock markets of developing countries. For many years, emerging market equities were synonymous with disappointment. JPMorgan noted that while emerging market stocks cumulatively outperformed their developed market peers by 25 per cent since the start of 2025, “this gain remains modest compared to the 47 per cent underperformance that [emerging markets] experienced versus [developed markets] from 2018 to 2024, suggesting the reversal has considerably further to run”. Emerging markets account for only 11 per cent of the value of the MSCI All-Country World Index, a gauge of global stocks, despite constituting 40 per cent of global gross domestic product and 70 per cent of global growth. The AI boom has changed the calculus for investing in emerging markets. Developing economies, which used to be seen as commodity-driven markets heavily dependent on the performance of advanced economies, are now at the forefront of technological leadership. Not only is the AI hardware supply chain overwhelmingly based in Asia, but emerging markets are driving growth in corporate earnings, led by South Korea and Taiwan. Yet it is precisely the dominance of the two semiconductor hubs that worries fund managers. A recent Citigroup report said emerging market equities were “losing some of their diversifying benefits in a global context”. The information technology sector’s weight in the MSCI Emerging Markets Index has risen to 45 per cent, up from 20 per cent in 2022. Moreover, the AI trade has become increasingly unpredictable and prone to shifts in sentiment that trigger outsize market reactions. Semiconductor stocks are more volatile relative to the broader market than at any point since the dot-com crash in 2000. Since June 22, South Korea’s Kospi index has lost over 20 per cent as part of a broader sell-off in chip stocks amid recurring concerns about the underpinnings of the AI-fuelled rally. Worries about concentration risk were compounded by disorderly declines in single-stock leveraged exchange-traded funds that track Samsung Electronics and SK Hynix. The funds, a magnet for retail investors who sought to amplify returns from the chip rally, helped turn South Korea into the world’s most volatile equity market, exacerbated by regulatory mistakes. What should emerging market investors do? Some are rotating into less crowded parts of the AI trade, such as mainland Chinese internet cloud-related stocks “that could benefit if investors seek diversification away from concentrated AI exposure”, JPMorgan said. Others are betting that the rally in emerging markets broadens to other sectors. Yet the reality is that South Korea and Taiwan are too pivotal to corporate earnings and returns for investors to have an underweight position in both markets. Citigroup noted that the tech sector was responsible for 85 per cent of the 28 percentage points of growth in corporate earnings in emerging market equities since February. Emerging market stocks have a concentration problem. But Asia’s thriving tech sector has revived the fortunes of the asset class, underpinned by stronger fundamentals and structural tailwinds. Investors have little choice but to take the rough with the smooth.

AI trade keeps capital – and risks – flowing to emerging markets

.css-1c6uqr6{color:inherit;font-weight:inherit;font-size:inherit;font-family:inherit;line-height:inherit;overflow-wrap:break-word;}Investors nervous about the dominance of South Korean and Taiwanese chipmakers can’t afford to ignore them

Investors nervous about the dominance of South Korean and Taiwanese chipmakers can’t afford to ignore them