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One of the world's best trades this year, going long on emerging-market equities, is even troubling the bulls after handing investors twice the return from developed-country stocks.

The MSCI Emerging Market index's almost 30-per-cent surge in 2017 has left valuations at the most expensive level since the start of 2010, a signal to JPMorgan Chase & Co. and Deutsche Bank AG that short-term weakness may be imminent despite remaining firmly in the bullish camp more longer term. Improving earnings growth and reform in economies from Brazil to India remain too good to pass up at UBS Asset Management.

"Emerging markets are where we have the greatest level of conviction," said Tracey McNaughton, Sydney-based head of investment strategy at the Australian division of UBS Asset Management. "Still, even after the rally, it can go further," she said in an interview in Sydney. The money manager oversees about $730-billion (U.S.) of assets.

One key challenge now is the valuation argument. The chart below shows how pricey the equities have become after trading closer to 10-times estimated earnings as recently as the start of last year. That has expanded during the more than 60-per-cent rally off the lows in January, 2016.

Last year, as U.S. President Donald Trump was elected, emerging-market shares were trading at a hefty discount to their developed-market peers as investors bet a stronger dollar would weigh on currencies in developing nations. That has all but vanished. Mislav Matejka, JPMorgan's London-based veteran global equity strategist, this week cut his recommendation on the shares, describing it as a tactical call following the recent gains.

A huge test awaits for emerging-market assets as investors prepare for the Federal Reserve, which starts its policy meeting Tuesday, to begin the process of shrinking its balance sheet. Any strength in the dollar resulting from improved prospects for the U.S. economy or a continued rise in 10-year bond yields toward 2.3 per cent may trigger a drop in emerging-market stocks, said Deutsche Bank's Sean Taylor.

"If there was a correction it would definitely be worth adding more to emerging markets – that's what we would look to do," said Mr. Taylor, the head of emerging markets at Deutsche Bank's asset management division in Hong Kong.

For Ms. McNaughton, even those investors who have missed the stellar run need not fret as continued resilience in earnings growth and economic reform will drive more outperformance, she said. While saying it's one of the hardest periods of her more than 20-year career to find value in global markets, emerging-markets stocks do fit the bill.

The next leg higher may come from smaller Asian markets that have so far lagged, according to Alexander Redman, London-based analyst at Credit Suisse Group AG. The firm is overweight on stocks in Indonesia and Malaysia, expecting growth to accelerate in both countries. Up until now, much of the gains have come from China.

A notable feature of returns in emerging-market assets during this bull run for equities has been the lack of volatility. As this chart shows, it's the developed-market assets that have seen greater swings, a retort to those who argue against a higher weighting in developing-nation securities due to greater perceived volatility.

Reasons to remain optimistic have aligned for BNP Paribas SA's Marcelo Carvalho. The Sao Paulo, Brazil-based strategist says even a stronger dollar over the next six months can't stop the rally.

"It feels as good as it gets when it comes to global prospects facing emerging markets," he wrote in a report. "A robust and simultaneous growth recovery, low inflation, amply accommodative monetary policy in advanced economies and a weakening of the U.S. dollar have created a sweet spot for emerging markets."