An emerging market is a country that has some characteristics of a developed market but does not satisfy standards to be termed a developed market.
The MSCI Emerging Markets Index covers more than 800 securities across large and mid-cap size segments and across style and sector segments in 24 emerging markets. The 24 countries in the index represent 10% of world market capitalization. The Index is available for a number of regions, market segments/sizes and covers approximately 85% of the free float-adjusted market capitalization in each of the 24 countries.
MSCI uses their MSCI Market Classification Framework to classify countries based on economic development, size and liquidity, and market accessibility criteria.
According to MSCI, it includes countries like Brazil, Chile, Colombia, and Mexico in the Americas. emerging markets in Europe, the Middle East, and Africa are countries like Hungary, Poland, Russia, and Turkey. Asia emerging markets are China, India, Korea, and Taiwan.
Now that we have clarified who the emerging markets countries are, let’s take a look at their price trends.
The MSCI Emerging Markets Index is in a bear market territory, down -20% from its high in January. The investment industry defines a “bear market” as a -20% off its recent high, so we’ll go with it.
This isn’t the first time Emerging Markets have declined -20% or more since 2009. The downtrend 2015 – 2016 was over -30%.
Looking back to 2007, we see the Emerging Markets Index has never recovered to reach its high in September 2007. It’s still down about -24% from the high 11 years ago.
So, if we define a “bear market” as -20% off its high, the Emerging Markets Index was in a bear market until January this year and has since reversed back into a bear market again. A bear market that lasts 11 years as this one did is called a “secular bear market“.
So, we could say: emerging markets have reentered their secular bear market. Or, maybe it’s just a continuation of a secular bear market if we don’t consider the temporary January 2018 breakout above its 2007 high to have ended the ongoing secular bear market.
The bottom line is, emerging markets countries as an index are trending down. They’ve been in a generally non-trending range for the last decade, though there have been many swings up and down along the way.
It is what it is, but you may now wonder; Why? I pointed out in Trend of the International Stock Market one reason International stocks are trending down for U. S. investors is the Dollar has trended up. Currency risk is a significant risk facing investors in International and emerging markets. But that isn’t the only driver of stocks in these emerging markets countries.
My focus is on the direction of the actual price trends. Any guess anyone has about what is driving the trend is just a narrative. Some guesses are better than others as there are specific return drivers that drive trends, but my decisions are made based on what the trend is now and if it’s more probable the direction will continue or reverse.
Why do I care about the trend of emerging markets?
As the portfolio manager of a global tactical investment program, I make tactical trading and investment decisions across world markets including not only U.S. stocks, bonds, commodities, and currencies, but also international stocks and bonds. My global universe includes developed countries as well as frontier markets and emerging markets.
As emerging markets are down -20% off their high, smaller frontier markets are close behind and larger developed countries are also in a downtrend.
Less experienced ETF investors and advisors sometimes ask why I include international markets in my universe, because they’ve only seen these non-trending, weak trending, and down-trending periods the last twelve years.
I include these international markets to make my universe global because there have been periods when these markets provide significantly better trends and momentum over the U.S. stock market. For example, the 2003-2007 bull market.
You can probably see how exposure to these markets added significant alpha to my global tactical portfolio prior to 2008. However, you may also notice their trends weren’t without volatility and declines along the way, so it wasn’t as simple as a buy and hold allocation to them. My Global Tactical Rotation® systems rotate between these markets trying to capture their positive trends rather than a fixed allocation to them.
As seen in the chart above, the relative strength of emerging, frontier, and developed countries were significant over domestic stock indexes in the 2003 to 2007 bull market. It was a trend driven by commodities and countries that produce natural resources.
They will have their opportunity again but for now, this trend isn’t our friend.
Mike Shell is the Founder and Chief Investment Officer of Shell Capital Management, LLC, and the portfolio manager of ASYMMETRY® Global Tactical.
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The observations shared in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. Investing involves risk including the potential loss of principal an investor must be willing to bear. Past performance is no guarantee of future results.
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