Will Emerging Markets Stop Emerging for Investors?

February 15th, 2011
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clive corcoran by Clive Corcoran, Guest Author.  Bio information at the article posted yesterday.


Investors have pulled more than $7bn from emerging market equity funds in early February, the biggest withdrawal in more than three years….

Follow up:

Violence on the streets of Egypt and a jump in oil prices to more than $100 a barrel set off a wave of anxiety across developing markets. But the fund outflows also reflected deeper unease about economic overheating in China, India, Brazil and other big emerging economies, as discussed here.

Emerging markets attracted record investor inflows of $95bn in 2010 as they became a defining investment theme in the wake of the financial crisis. The latest figures have raised concern that the emerging market bull run may be about to end as investors look for value in beaten-down markets in the west. “Since the fourth quarter, the perception of where the value lies in the equity markets has shifted pretty decisively toward the developed markets,” said Cameron Brandt, global markets analyst at EPFR, which tracks the fund movements.


The chart below for the Shanghai Composite index shows that this key BRIC index topped out around 3200 in early November 2010. Since this most recent peak the index has retreated by almost 600 points, touching an intraday low of 2661 on January 25th of this year.

clive shanghai 2-14-11

The decline in the Shanghai index has been, from a technical perspective, remarkably in conformity with certain key Fibonacci levels. The move down from the top in November to the low seen on January 25th was almost exactly 62% of the range between the high and low values seen on the chart. The recovery back towards the 38% level will be especially critical for this index as this level is also an area of technical resistance. The 50 day moving average (exponential) has intersected with the 200 day average, and if, in fact, the index fails to maintain its recovery mode and there is a crossing of the shorter term average below the longer term average, this would actually constitute a so called death cross which, as the name suggests, is not a healthy development in technical terms.

The way in which prices develop on this index in the coming weeks will be vital to monitor as the trend line up from the lows seen in the summer of 2010 has clearly been violated, and the risk is that if the index fails to regain the levels seen in mid-December a succession of lower highs would suggest that the correction has further to run.

The relatively weak performance of Chinese equities sets the backdrop for the remainder of this discussion which will focus on two other BRIC markets.

Mumbai (Bombay)

Recently I presented charts showing the negative reaction in two of the other key BRIC markets in a televised slot for Reuters Insider which can be seen here.

The first chart to consider is that for the Mumbai Sensex index which has fallen by more than 15% since reaching a high above 21,000 on November 5th (recall that this was almost exactly to the day that the US dollar index turned upwards after the QE2 ratification).

clive mumbai 2-14-11

The key factors with regard to the Mumbai index are the notable failure in mid January - shown as B on the chart - for the index to reach back to its November peak - marked A on the chart. Also evident is the recent price action which has brought the index to the somewhat critical 18,000 level. The index closed on Friday (Feb 4th) just above this level which also is a 62% retracement of the entire high/low range seen on the chart.

Moving beyond the technical patterns there are undoubtedly some key concerns that are undermining the confidence of global and local investors in Indian equities. There is a real concern about the accelerating rise in food inflation which is now above 17% on an annualized basis, and this is putting increasing pressure on New Delhi to take tougher steps to keep food prices in check in India. It is worth noting that in an economy where 80% of the 1.2 billion population lives on less than $2 a day, the impact of higher prices for basic foodstuffs is far more profound than it is in a more heterogeneous market where consumers have more discretionary income.  This was discussed yesterday in a GEI Analysis article.


The final market to consider in this overview of unsettling developments in the BRIC's is Brazil. The extent of food price inflation in Brazil, according to the official government statistics, is far less alarming than the 17% figure seen in India, and is currently estimated to be around 6% on an annual basis; but there are unofficial estimates that place the figure considerably above this level.

The losses seen on the Bovespa index have so far been less than 10% but the potential exists for a further slide in this index. The inflation-targeting program established by the Brazilian government requires that above target inflation has to be held in check and this will almost certainly lead to further interest rate hikes.

The base rate in Brazil is already at 11.25%, and in a recently released central bank survey, Brazilian economists have projected a rise to 12.50% by the end of 2011.

The usefulness of fibonacci retracement targets in forecasting potential price targets and support/resistance levels is well illustrated in relation to the weekly close for Brazil’s Bovespa Index. On February 4th the index closed at 65,269 which was almost exactly the level indicated in the broadcast slot above and in my daily commentary which was published early on February 3rd.

clive brazil 2-14-11


Should Investors Throw Bricks (Rather than Buy BRICs)

The thesis being proposed is that the three BRIC economies examined in this piece have all reached key retracement levels where there are two contrasting outcomes.

The more positive outcome would be that one would expect, on the assumption that asset allocators remain optimistic about the continued economic out-performance of the BRIC's in contrast to the sclerotic growth in the mature economies, that equity market rebounds are most likely. Moreover if one subscribes to the view that global de-coupling is valid, and that there is a long term macro negative correlation between the appetite for the dollar and BRIC/EM assets then one would have to remain skeptical regarding the US dollar’s appearance of forming a base at present (i.e. in early February 2011).

If on the other hand the attrition in the BRIC markets continues and risk appetite for BRIC assets is in retreat one must be tempted to reach the conclusion that there are the beginnings of a real aversion by investors to the inflation genie. Not only is it out of the bottle but fund managers may suspect that containing the damage arising from mounting agricultural and other strategic commodity prices, will be a painful affair for the BRIC's and perhaps too eventually for the "advanced" economies.

The question then becomes one of de-coupling again but under a different guise this time than that usually depicted. If the most dynamic economies of the world – where final demand is increasing more rapidly than in North America, Japan and most of Europe – are being forced to tighten monetary policy to preserve purchasing power of their currencies, and to avoid the political and social fallout of higher food costs, then for how much longer is it safe for the USA, UK and Eurozone to maintain the confidence trick that ZIRP is not a hazardous policy which will eventually lead to troubling and ubiquitous global inflation?

There are several ETF’s that enable investors to have exposure to some key emerging markets and these include EWZ, which tracks the MSCI Brazil index; INP, which tracks the MSCI India Index; IDX, which tracks the MSCI Indonesian market; ILF, a fund which tracks the Top 40 Latin American equities, and which provides exposure to Brazil as well as Mexico. These are all relatively large and liquid exchange traded funds and there are also inverse funds for taking a short position with respect to BRIC and emerging markets in general.

BZQ ProShares UltraShort MSCI Brazil
EDZ Direxion Daily Emrg Mkts Bear 3X Shares
EEV ProShares UltraShort MSCI Emerging Mkts
FXI iShares FTSE China 25 Index Fund

Related Article

Are Cracks Developing in the BRICs? By Clive Corcoran




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