Tom Wilson | Head | Emerging Market Equities | Schroders | mail me |
Investors have a limited edge in predicting geopolitical outcomes. Our value-add lies in assessing the relative economic exposure of different countries. It also lies in judging what the market has priced into different sectors and determining how to allocate risk accordingly within a geopolitical risk investment strategy.
When geopolitical risk is elevated, where can investors add value?
Generally, investors have a very limited ability to predict geopolitical outcomes. Even the main protagonists may struggle to predict how the Iran conflict will evolve. Therefore, while we maintain a basic view on the motivations of the key actors, we focus our geopolitical risk investment strategy on assessing relative exposure among countries and companies.
We also evaluate what the market has already priced in, identify areas where we can form a view, and allocate and manage risk appropriately.
A simple framework to assess economic sensitivity
We currently face a geopolitical shock with an uncertain duration. As a result, forecast risk remains high. Therefore, assessing relative sensitivity offers more value than creating point forecasts in a geopolitical risk investment strategy.
We use a simple framework to assess economic exposure to food and fuel inflation. We also assess exposure to disruptions in energy supply. However, it is much harder to evaluate second-round effects, such as broad-based supply chain disruption.
First, we consider gross domestic product (GDP) per capita and the share of food and fuel in the consumer price index (CPI) basket. Food and energy typically make up a larger share of CPI baskets in less developed countries. Wealthier countries are also more capable of securing available cargo. In contrast, less developed countries are likely to face larger physical deficits and greater demand destruction.
Next, we assess whether a country is a net energy importer. A higher energy import bill negatively affects external accounts and currencies. When a country faces currency pressure and higher domestic inflation, monetary policy often comes under pressure as well.
We also evaluate the fiscal position. Specifically, we assess the extent to which a country can comfortably provide fiscal support to moderate prices through subsidies or fuel-duty relief. Finally, we examine the energy mix across oil, gas, coal, nuclear and renewable sources, as well as crude inventory levels. Together, these factors can influence growth outcomes.
How does energy sensitivity differ for the “Big Four”?
The bulk of emerging market beta is concentrated in four countries that make up 80% of the EM index: China, Taiwan, Korea and India.
China is relatively well-positioned. It has a defensive energy mix, with coal accounting for a large share of total energy use. In addition, half of its gas imports arrive through pipelines. China also maintains significant strategic reserves.
India sits at the opposite end of the spectrum. It is a major energy importer. Consequently, a higher energy bill places pressure on both external accounts and the currency. India’s crude reserves are relatively low. The country is also less developed, and food and fuel account for a relatively large share of the CPI basket. In addition, the government will likely absorb some fiscal costs as part of its geopolitical risk investment strategy, as it seeks to reduce the inflationary effects of higher energy and fertiliser prices. Together, these factors are likely to increase pressure on growth.
Taiwan and Korea fall somewhere in the middle. Both countries import energy, but they are also wealthier economies with stronger external buffers. Thanks to the technology cycle, Taiwan’s current account surplus is expected to exceed 20% of GDP in 2026. This figure far exceeds any increase in the energy import bill. Taiwan, therefore, has strong economic resilience. At some stage, disruption to technology inputs may occur. However, we expect AI-related capital expenditure to remain robust. Any supply disruption would therefore tighten the market further.
Korea also benefits from a substantial current account surplus because of the current technology cycle.
Beyond the Big Four – applying the same lens across regions
Among the Association of Southeast Asian Nations (ASEAN), exposure is generally higher. Indonesia may benefit as a coal exporter. However, Thailand and Vietnam remain exposed, and Indonesia still faces risks in other areas. In Europe, the Middle East and Africa (EMEA), Turkey and South Africa are more exposed.
Meanwhile, Latin American markets appear more resilient. Brazil is a net energy exporter. Mexico’s energy balance remains broadly neutral, and most of its gas arrives through pipelines from the United States.
US dollar depreciation was a driver of emerging markets in 2025. Has our view changed? The US dollar remains an important transmission channel for emerging markets. In the near term, the Iran conflict supports the dollar, particularly because the United States is energy self-sufficient.
Over the medium term, however, we still see potential for dollar depreciation within a broader geopolitical risk investment strategy framework. Reduced appetite among external investors to finance elevated US twin deficits, namely fiscal and current account deficits, supports this view. A high net international investment position also contributes.
The US dollar is inversely correlated with relative emerging market equity performance. Dollar depreciation eases financial conditions across emerging markets. In most cases, EM currency appreciation represents the other side of US dollar weakness. This dynamic can reduce inflation through currency pass-through effects, facilitate monetary easing and support US dollar nominal growth.
How to allocate risk when geopolitical risk is elevated?
Investors should allocate risk where they have conviction. We currently face a geopolitical shock with an uncertain duration. Consequently, forecast risk has increased.
Our assessment of relative economic sensitivity informs our country allocation views as part of a broader geopolitical risk investment strategy. Therefore, we do not favour aggressive positioning in the most exposed parts of the market. India would benefit from normalisation. However, valuations remain unattractive, and the growth recovery that emerged before the conflict has likely stalled.
Instead, we favour allocating risk where conviction is strongest. One example is technology hardware, where commercial AI use cases continue to emerge rapidly. This trend supports our positive view on AI-related capital expenditure.
We also favour areas that demonstrate resilience against ongoing disruption and offer sufficient valuation support. In addition, the conflict has reinforced themes such as defence and electrification.
Expectations of persistently elevated geopolitical risk and growing concerns about energy security support these themes. We also expect gold to continue attracting investor flows. Concerns about weak fiscal discipline and fiat currency debasement support this outlook. Ongoing central bank reserve diversification provides additional support.
What is our framework for thinking about the Iran conflict?
A brief geopolitical view follows. Please treat it with caution. We do not claim to understand the full range of motivations driving geopolitical actors.
Our baseline view is that a prolonged closure of the Strait of Hormuz would cause severe damage to the global economy and financial markets. Therefore, some form of resolution is likely. Escalating economic and market stress may force that resolution.
The key question concerns timing. In addition, investors must consider whether any subsequent normalisation will prove sustainable. Based on recent events and behaviour, neither the United States nor Iran appears eager to resume direct conflict. The ceasefire has largely held despite intermittent military action.
The United States likely wants to avoid both global economic damage and domestic political fallout associated with a prolonged Strait closure. Meanwhile, Iran seeks regime survival and wants to avoid additional attacks on its economy and leadership.
A deal in principle remains possible. Such a deal would likely involve a compromise on suspending nuclear enrichment and managing existing enriched uranium. In return, Iran could gain access to sanctioned funds and future sanctions relief. This arrangement could incorporate elements of the original Joint Comprehensive Plan of Action (JCPOA). However, any agreement must address the substantial lack of trust between both parties.
We believe Iran views the Strait closure as a source of leverage. Although US actions have constrained Iran’s crude exports, Iran may still be willing to wait longer than the United States before reopening the Strait.
The longer the closure continues, the more visible the economic damage becomes. At present, markets do not appear to price in a prolonged closure. China may also help facilitate a deal. As the dominant buyer of Iranian crude, China has a strong interest in avoiding global economic stress that could result from an extended closure.
Even without a formal deal, the parties could still agree to allow transit through the Strait. Such an arrangement might involve tolling mechanisms. However, it may not produce full normalisation. As a result, risk premia could remain elevated because investors may question the arrangement’s durability.
Near- and long-term scenarios for energy supply and demand
We believe energy demand will remain supported in the near term after the conflict. Inventory rebuilding is likely to continue and may occur at higher levels than before. Over a longer horizon, however, supply could increase. The UAE may leave OPEC, and sanctions relief could allow Iran to expand production and increase crude exports.
At present, several factors have moderated the immediate impact on energy markets. These include energy switching, a shift from strategic reserve accumulation to reserve drawdowns, reductions in commercial inventories, and demand destruction. Together, they have limited price increases. However, commercial inventory drawdowns cannot continue indefinitely.
Capacity may become constrained as early as July. In addition, fertiliser disruption and higher input costs are likely to increase food inflation with a lag.
Markets may choose to look beyond short-term economic stress and focus instead on the prospects for a deal and eventual normalisation. However, inflation could still surprise on the upside. Furthermore, the market could face a more severe near-term energy supply shock.
