This too shall pass: Selloff won't stop emerging stock rally

By Srinivasan Sivabalan and Selcuk Gokoluk

The global equity selloff has left emerging markets scarred but standing.

Developing nations have lost more than $750 billion in the past week as the U.S. stock slump spread and panicked investors ignored their key advantages of economic growth and earnings. Yet for some, it’s the buying opportunity they’ve been waiting for.


“With this selloff, it makes sense to allocate more toward equities,” says Brian Jacobsen, multi-asset strategist at Wells Fargo Asset Management in Milwaukee, Wisconsin. “We have been looking for an opportunity to re-balance into some emerging markets and European equities. This has provided that opportunity.”

Here are four technical impulses that should keep emerging markets on their feet:

1.

The ratio between the price-earnings multiples of the MSCI Emerging Markets Index and the S&P 500 Index is hovering below its average since 2005 and also below its mean in the past 10 years. That suggests the advances in developing nations since 2016 haven’t compensated for the valuation slump in previous years and investors have yet to price in the recent economic and profitability gains.

The purple band in the chart shows how investors have confined the relative valuation for developing-nation stocks to a low range since 2013. In other words, equities are trading at similar valuations to the height of investor pessimism during the taper tantrum, crude-oil plunge, China’s shock devaluation and the first U.S. interest-rate increase in almost a decade.

2.

Inflows into U.S. exchange-traded funds signal investors may be shifting from emerging-market bonds to stocks. In the nine years after the 2008 financial crisis, the iShares JPMorgan USD EM Bond ETF received a net $11.8 billion of new deposits, more than four times as much as the iShares MSCI EM ETF. This year, the equity fund has received a net $2.8 billion, compared with the bond fund’s $1 billion.

3.

There has been a 34 percent jump over the past three days in option traders’ volatility bets on the equity fund. Yet it’s much smaller than the surge in the Chicago Board Options Exchange Volatility Index, or VIX. That has taken U.S. market turbulence to a record against developing nations.

4.

Technical patterns suggest that the MSCI stocks gauge may derive support in the region of 1,139 to 1,148, where the 23.6 percent Fibonacci retracement level combines with the index’s 100-day moving average. That’s only 3 percent below Tuesday’s levels. The benchmark emerging market index rose 0.2 percent on Wednesday in its first increase in almost a week.