Stock Investors Seek Shelter Overseas
Despite their increased appeal, emerging markets are unlikely to offer the smooth sailing they did in 2017
Investors are returning to emerging markets, hoping to find bargains after one of the worst selloffs in years.
Flows into developing countries’ stocks and bonds surged in November to $33.9 billion, their highest level since January, data from the Institute of International Finance showed.
The MSCI Emerging Market Index, which measures stock performance, is up around 5% from its October lows. Beaten down currencies like the South African rand and Indian rupee have staged big rebounds, while the Turkish lira has jumped nearly 30%, after plunging as much as 45% earlier this year.
After several years of double-digit returns, emerging markets have been slammed in 2018 by a host of concerns, from a stubbornly strong dollar to a trade conflict between the U.S. and China. Investors have also been worried that the Federal Reserve will continue raising rates in 2019, potentially driving U.S. yields and the dollar higher and dimming the allure of emerging market assets.
Those concerns are unlikely to dissipate soon. Still, the year’s big declines have made some emerging-market assets comparatively attractive to investors who have been hurt by the gyrations in U.S. stocks and bonds. The S&P 500 lost 4.6% last week while the yield on the 10-year Treasury note retreated further below 3%.
Candice Bangsund, portfolio manager at Canadian asset manager Fiera Capital, sold U.S. stocks in October and added to positions in emerging market equities, betting that developing countries will grow faster than mature economies next year.
“The selloff has been overdone,” Ms. Bangsund said. “Emerging-market equities haven’t been this attractive versus the U.S. stock market since the depths of the financial crisis.”
While p/e ratios aren’t perfectly comparable around the world, it is clear that selloffs overseas have resulted in some lower valuations. Companies in Brazil’s Bovespa index traded last week at roughly 17.7 times their last 12 months of earnings, compared with the S&P 500’s price/earnings ratio of around 18.8. Companies on China’s Shenzhen Composite Index traded at 22.5 times their last 12 months earnings, compared with a 10-year trailing average of 39.1.
Fiera also holds the bonds of Argentina, Mexico, Chile and Colombia.
Recent developments have increased the appeal of emerging markets, investors said. Some are growing convinced that the Fed may signal a new wait-and-see approach to tightening monetary policy after a widely expected rate increase in December, a development that could slow the pace of increases next year and limit further gains in the dollar.
Friday’s employment numbers bolstered the case for a more moderate Fed: While unemployment remained at a multidecade low and wages grew, the economy created fewer jobs than expected in November.
Alejo Czerwonko, emerging markets strategist at UBS Wealth Management, said he is holding a broad range of developing countries’ dollar-denominated sovereign bonds, a trade that allows him to receive yields that are around 4 percentage points higher than those offered by U.S. Treasurys.
He also favors the stocks of Asian countries that have been hammered in recent selloffs, including China, South Korea, Indonesia and Vietnam.
“We think 2018 has created value and we are trying to take advantage,” he said.
Few believe that emerging markets will offer the kind of smooth sailing they did in 2017, when returns on stocks dwarfed those of the S&P. Among the most imminent threats is a U.S. trade conflict with China, which shows little sign of cooling even after leaders appeared to reach a truce at a summit of the Group of 20 developed nations earlier this month. The recent arrest of a top Chinese tech executive has some investors concerned that a detente could be more complicated to maintain than anticipated.
At the same time, too much instability in U.S. markets could spook investors into cutting allocations to developing countries, where money managers assume greater risk in the hopes of garnering bigger returns. The Dow Jones Industrial Average fell almost 560 points on Friday, spurred by worries over how tariffs will impact the U.S. economy.
Nonetheless, some investors are confident that next year will be better for emerging markets.
The selloffs of 2018 are “sowing the seeds for a relief rally in the months ahead,” analysts at Bank of America Merrill Lynch said in a note to clients last month.
The bank recommends purchasing Indonesia’s government bonds, which analysts said will benefit from the country’s fiscal discipline and monetary tightening.