From Cabot China & Emerging Markets Report
The 16-week correction in the iShares MSCI Emerging Markets ETF (EEM) created a very informative chart. It began with a new high on the first trading day of the year (remember the sigh of relief when the U.S. avoided the Fiscal Cliff?) and began correcting calmly for a month. The first major attempt at a rally came in February, and was followed by others in late February, late March and early April.
But each of these rally attempts stalled out at a lower price and each retreat made a lower low. And the Fund’s correction became progressively more volatile as time passed, indicating that buyers and sellers were conducting a sincere battle over whether emerging markets were under/over-valued or under/over-sold.
EEM bottomed out in mid-May after executing a very precise 10% correction, and it has now (as of May 8) been rallying for 13 trading sessions (beginning April 19), with only two of those sessions booking losses.
What has changed? Why did we have such a volatile pullback in emerging market stocks followed by such a remarkably one-sided recovery?
We can look to the chart of the Nasdaq Composite for one clue. The Nasdaq Composite has been in an uptrend since the middle of November, but showed signs of running out of gas in March. In two quick whipsaw moves, the Index pulled below both its 25- and 50-day moving averages on April 5, then rocketed above both averages to a new high on April 11, then plummeted again, falling lower than its first April downmove, and finally, after hitting a low on April 18, began a new upmove that has left its moving averages far behind and has hit new high after new high.
It’s no coincidence that both the Nasdaq and EEM began their rallies on the same day. Investors’ appetite for risk affects all asset classes, and the Dow and the S&P 500 also began new rallies on April 18. Investor’s concerns about the strength of the global economy had hit the Nasdaq harder than the large-cap S&P or the blue-chip Dow. And those concerns had hit emerging market stocks hardest of all. Fortunately, the return of a hunger for risk has continued to gather strength, and emerging market stocks are now in full play.
The good news for us in all of this volatility is that our stocks have been performing well, taking in stride the ups and downs of both the developed and emerging market’s major indexes.
This is what a stockpicker’s market is all about. Except in the most chaotic of markets (like 2008), there are always stocks that have the right combination of strong stories, sound fundamentals and attractive charts to make progress, and they provide the best opportunities for growth investors.
And if investors gain confidence in the prospects for the global economy, stocks outside the U.S. will attract larger money flows as investors seek returns that have the potential to beat a volatile and risky market. Some will thrive for macroeconomic reasons and some because they have unique geographical and regulatory advantages. And some will do well because they address areas of enormous demand.
When it works—as it does now—it’s a great opportunity.
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