Equity Risk Premium in EM: China Stands Out

The equity risk premium on US equities dipped below 2% this year, touching levels last seen just prior to the GFC. This is a result of a high 10-year bond yield and a relatively low earnings yield (inverted forward P/E for the S&P 500). We decided to look at the equity risk premium across Emerging Market equities. Given the wide variance in valuations and interest rates, we expected there would be a large difference in equity risk premia across EM, and there was indeed. Some of the highest equity risk premiums were in Central Europe with Hungary and Poland at 9.2% and 6.4%, respectively. This is not surprising given the continued high inflation and general economic risk these countries have endured as part of the EU. Of the major EM’s, China stands out with an equity risk premium of 6%; China’s earnings yield of 8.9% vs its 10-year bond yield of 2.9% points to the continued attractiveness of Chinese equities. On the opposite end, two countries in EM had negative equity risk premia, India and Mexico. For these markets, the 10-year bond yields of 7.4% and 9.3%, respectively, suggests fixed income should be preferred by investors. The commodity exporters of Brazil and South Africa also have low risk premia and sluggish GDP growth for 2023, making equities less attractive. For the rest of EM equities, it appears risk is being properly priced, and valuations are appealing.