Global Investing

Braving emerging stocks again

It’s a brave investor who will venture into emerging markets these days, let alone start a new fund. Data from Thomson Reuters company Lipper shows declining appetite for new emerging market funds – while almost 200 emerging debt and equity funds were launched in Europe back in 2011, the tally so far  this year is just 10.

But Shaw Wagener, a portfolio manager at U.S. investor American Funds has gone against the trend, launching an emerging growth and income fund earlier this month.

It’s a great time to launch a fund if you have a long-term focus in mind. Emerging markets trailed DM in terms of performance for a while, peaking at end of 2010 so we are 3-plus years into a down market and period of significant underperformance.

He may be onto something. Some analysts have tentatively started advising clients to start dipping their toes back into water, given how cheap emerging market valuations are. Societe Generale for instance which has been negative on emerging equities for 3 years, said in a note that the sector had gone from being “priced for perfection to deep value”.

Emerging equities trade around 10 times forward earnings, compared to 14 for their developed counterparts and down from 13 times back in 2010.  Check out this graphic by @ReutersFlasseur: http://link.reuters.com/rut87v

Steroids, punch bowls and the music still playing: stocks dance into 2014

Four years into the stock market party fueled by a punch bowl overflowing with trillions of dollars of central bank liquidity, you’d think a hangover might be looming.

But almost all of the fund managers attending the London leg of the Reuters Global Investment Summit this week – with some $4 trillion of assets under management – say the party will continue into 2014.

Pascal Blanque, chief investment officer at Amundi Asset Management with over $1 trillion of assets under management, reckons markets are in a “sweet spot … largely on steroids with the backing of the central banks.”

Emerging equities: out of the doghouse

Emerging stocks, in the doghouse for months and months, haven’t done too badly of late. The main EM index,  has rallied more than 11 percent since its end-August troughs, outgunning the S&P 500′s 3 percent rise in this period. Bank of America/Merrill Lynch strategist Michael Hartnett reminds us of the extreme underweight positioning in emerging stocks last month, as revealed by his bank’s monthly investor survey.  Anyone putting on a long EM-short UK equities trade back then would have been in the money with returns of 540 basis points, he says.

Undoubtedly, the postponement of the Fed taper is the main reason for the rally.  Another big inducement is that valuations look very cheap (forward P/E is around 9.9 versus a 10-year average of 10.8) .

According to Mouhammed Choukeir, CIO , Kleinwort Benson:

Looking at valuations we think emerging markets are in an attractively valued zone, hence we think it’s a good investment. EMs are in negative momentum trend but have good valuations. We’re sitting on the positions we’ve built but if it hits a positive (momentum) trend we will add on it…. You wait for value and value will translate into returns over time.

A boost for cheap emerging equities. So will they bite?

Emerging stocks have rallied 3 percent today after the Fed’s startling decision to leave its $85 billion-a month money-printing in place, and some markets such as Turkey are up more than 7 percent. With the first Fed hike now expected to come in 2015 and tapering starting only from December, emerging markets have effectively received a three month breather. So will the buyers return?

A lot of folks have been banging the drum about how cheap emerging markets are these days. But imminent Fed tapering has been scaring away any who might have been tempted. Plus there is the economic growth slowdown that could knock profit margins at emerging market companies. Bank of America/Merrill Lynch which runs a closely watched monthly survey of fund managers shows just in the following graphic how unloved the sector is relative to history:

So should people be buying? BofA/ML certainly thinks so: its strategist Ajay Kapur suggests emerging stocks are 20 percent undervalued. He acknowledges all the risks out there but reckons they are all in the price by now:

Russian stocks: big overweight

Emerging stocks are not much in favour these days — Bank of America/Merrill Lynch’s survey of global fund managers finds that in August just a net 18 percent of investors were overweight emerging markets, among the lowest since 2001. Within the sector though, there are some outright winners and quite a few losers. Russian stocks are back in favour, the survey found, with a whopping 92 percent of fund managers overweight. Allocations to Russia doubled from last month (possibly at the expense of South African where underweight positions are now at 100 percent, making it the most unloved market of all) See below for graphic:

BofA points out its analyst Michael Harris recently turned bullish on Russian stocks advising clients to go for a “Big Overweight” on a market that he reckons is best positioned to benefit from the recovery in global growth.

Russia may not be anyone’s favourite market but in a world with plenty of cyclical headwinds, Russia looks a clear place for relative outperformance with upside risk if markets turn… we are overweight the entire market as we like domestic Russia, oil policy changes and beaten-up metals’ leverage to any global uplift.

BRIC shares? At the right price

Is the price right? Many reckon that the sell off in emerging markets and growing disenchantment with the developing world’s growth story is lending fresh validity to the value-based investing model.

That’s especially so for the four BRIC economies, where shares have underperformed for years thanks either to an over-reliance on commodities, excessive valuations conferred by a perception of fast growth or simply dodgy corporate governance. Now with MSCI’s emerging equity index down 30 percent from 2007 peaks, prices are looking so beaten down that some players, even highly unlikely ones, are finding value.

Societe Generale’s perma-bear Albert Edwards is one. Okay, he still calls the bloc Bloody Ridiculous Investment Concept but he reckons that share valuations are inching into territory where some buying might just be justified. Edwards notes that it was ultra-cheap share valuations in the early 2000s that set the stage for the sector’s stellar gains over the following decade, rather than any turbo-charged economic growth rates. So if MSCI’s emerging equity index is trading around 10 times forward earnings, that’s a 30 percent discount to the developed index, the biggest in a very long time. And valuations are lower still in Russia and Brazil.

“Contrarian” Deutsche (a bit) less bearish on emerging stocks

For an investor in emerging equities the best strategy in recent years has been to take a contrarian stance, says John-Paul Smith at Deutsche Bank.

Smith, head of emerging equity strategy at Deutsche, has been bearish on emerging stocks since 2010, exactly the time when bucketloads of new cash was being committed to the asset class. Investors who heeded his advice back then would have been in the money — since end-2010 emerging equities have underperformed U.S. equities by almost 40 percent, Smith pointed out a couple of months ago.

Things have worsened since then and MSCI’s emerging equity index is down around 12 percent year-to-date, almost the level of loss that Deutsche had predicted for the whole of 2013. June outflows from emerging stock funds, according to EPFR Global last week, were the largest on record. But true to form, Smith says he is no longer totally bearish on emerging equities.  Maybe the presence or absence of those he calls “marginal international investors” — people who joined the EM party too late and are quick to take fright — is key. Many of these positions appear to have been cleaned out. Short positions or high cash balances dominate the books of dedicated players,  Smith writes:

Weekly Radar: May days or Pay days?

So, it’s May and time for the annual if temporary equity market selloff, right? Well, maybe – but only maybe.  A fresh weakening of the global economic pulse would certainly suggest so, but central banks have shown again they are not going to throw in the towel in the battle to reflate. The ECB’s interest rate cut today and last night’s insistence from the Fed that it’s as likely to step up money printing this year as wind it down are two cases in point. And we’re still awaiting the private investment flows from Japan following the BOJ’s latest aggressive easing there.

So where does that all leave us? A third of the way through 2013 and it’s been a good year so far for nearly all bulls – both western equity bulls and increasingly bond bulls too! Not only have developed world equities clocked up some 13 percent year-to-date (the S&P500 set yet another record high this week while Europe’s bluechips recorded a staggering 12th consecutive monthly gain in April) , but virtually all bond markets from junk bonds to Treasuries, euro peripherals to emerging markets are now back in the black for the year as a whole. For the most eyebrow-raising evidence, look no further than last week’s debut sovereign bond from Rwanda at less than 7 percent for 10 years or even newly-junked Slovenia’s ability this week to plough ahead with a syndicated bond sale reported to already be in the region of four times oversubscribed. For many people, that parallel rise in equity and bonds smells of a bubble somewhere. But before you cry “QEEEEE!” , take a look at commodities — the bulls there have been taken a bath all year as data on final global demand hits yet another ‘soft patch’ over the past couple of months.

So is this just an idiosyncratic random walk of asset markets (itself no bad thing after years of stress-riven hyper correlation) or can we explain all three asset directions together? One way to think of it is in terms of global inflation. If QE-related inflation fears have been grossly exaggerated then pressure to remove monetary stimulus or wanes again and there may even be arguments – certainly in Europe – for more. This would intuitively explain the renewed dash for bonds and fixed income in general even in the face of the still-plausible, if long term, “Great Rotation” idea. You could argue the monetary free-for-all is buoying equities regardless of demand concerns. But why wouldn’t commodities gain on that basis too?

Weekly Radar: Question mark for the ‘austerians’

One of the more startling moves of the week was the fresh rally in euro government debt – with 10-year Italian and Spanish borrowing rates falling to their lowest since late 2010 when the euro crisis was just erupting and 2-year Italian yields even falling to 1999 euro launch levels. The trigger? There’s been a slow build up for weeks on the prospect of new Japanese investor flows  seeking liquid overseas government bonds  – but it was signs of a sharp slowdown in Germany’s economy that seems to have had a perversely positive effect on the region’s asset markets as a whole. The logic is that German objections to another ECB rate cut will ebb, as will its refusal to ease up on front-loaded fiscal austerity across Europe. If its own economic engine is now suffering along with the rest, significantly just five months ahead of German Federal elections, then a tilt toward growth in the regional policy mix may not seem so bad for Berlin after all. And if euro economies are more in synch, albeit in recession rather than growth, then perhaps it will lead to a more effective regional policy response.

All that plays into the intensifying “growth vs austerity” debate, which had already shifted at the Washington IMF meetings last week and was sharpened this week by by EU Commission chief Barroso’s claim that the high watermark of EU’s austerity push had passed. On top of the Reinhart/Rogoff research farrago, it’s been a bad couple of weeks for the “austerians”, with only a UK Q1 GDP bounceback of any support for case of ever deeper fiscal cuts,  and investors smell a change of tack. Their reaction? Not only have euro government borrowing costs fallen  further, but euro equities too rallied for 4 straight days through Wednesday. Those arguing that investors would run screaming at the sight of a more growth-tilted policy mix in Europe may have some explaining to do.

Next week is back on monetary policy watch however. The ECB takes centre stage amid rate cut talks hopes for help for credit-starved SMEs. The FOMC meets stateside aswell just ahead of the critical US April employment report.

Weekly Radar: Second-guessing Japan flows as global growth slows

Figuring out what was driving pretty violent market moves this week was trickier than usual – and that says something about how much the herd has scattered this year, with ‘risk on-risk off’ correlations having weakened sharply. Just as everyone puzzled over a potential “wall of money” from Japan after the BOJ’s aggressive reflation efforts, the bottom seemed to fall out of gold, energy and broader commodity markets – dragging both equity markets and, unusually, peripheral euro zone bond yields lower in the process.  As dangerous as it may be to seek an overriding narrative these days, you could possibly tie all up these moves under the BOJ banner – something along these lines: the threat of a further yen losses pushes an already pumped-up US dollar ever higher across the board and undermines dollar-denominated  commodities, which have already been hampered by what looks like yet another lull in global demand. Developed market equities, whose Q1 surge had been reined in by several weeks of disappointing economic data and an iffy start to the Q1 earnings season, were then hit further by a lunge in heavy cap mining and energy stocks. The commodities hit may also help explain the persistent underperformance of emerging markets this year. What’s more the lift to Italian and Spanish government bonds comes partly from an assumption any Japanese money exit will seek U.S. and European government bonds and relatively higher-yielding euro government paper may be favoured by some over the paltry returns in the core ‘safe havens’ of Treasuries or bunds. The confidence to reach for yield has clearly risen over the past six months as wider systemic fears have receded – something underlined in dramatic style this week by a huge lunge in gold,  now lost almost 20 percent in the year to date.

While all that logic may be plausible, there have been dozens of other reasons floating around for the seemingly erratic twists and turns of the week.

The only truth so far is that everyone is still just guessing about the likely extent of a Japanese outflow and confidence about global growth has received another setback.