It was emerging markets wot done it. The US Federal Reserve fought shy of hiking interest rates in September because of the impact on emerging markets, or rather China. The Fed’s remit is to consider US inflation and employment, but it can’t ignore major creditor nations such as China any longer. Isolationism doesn’t cut it any more, because the US economy will catch any blowback.
Partners In Debt
Emerging markets have seized advantage of record-low interest rates to load up on dollar-denominated debt, and a stronger dollar would make this will be more expensive to service. It would also would hit growth in countries whose currencies are tied to the greenback. If their currency pegs started to buckle under the strain, they would have to dump short-dated US Treasuries to maintain their exchange rates, which would force US domestic interest rates higher.
So emerging markets can breathe a little easier, at least until the next Fed meeting in October, or maybe December, or failing that, some vague point in 2016. The consensus is that emerging markets are still too risky to invest in, after suffering more than $1 trillion of capital outflows in the past year. But investors should be wary of any consensus, especially those who like to take advantage of market sell-offs to buy shares at discount prices, as we do at the Fool. And not everybody agrees that emerging markets are toxic right now.
The Worse, The Better
It has undoubtedly been a rotten year for emerging markets. New research from online investment manager SCM Direct shows the MSCI Emerging Markets Index is down almost 14% year-to-date, leaving stocks trading at a 39% discount to their developed peers, the lowest for 12 years. Interested?
Alan and Gina Miller, the experienced investors behind SCM, say these figures suggest that emerging market stocks could make a potential gain of nearly 25% over the next 12 months. Like the Fool, they think the best time to buy shares is when markets are volatile and investors are nervous
Meet The Millers
The Millers have pored over the history of emerging market equity performance and volatility since March 2000 and found the average total return from investing at volatile times like these was 24.4%. In the vast majority of cases, investors received a double-digit return over the next year, with no negative recorded returns.
That certainly chimes with everything the Fool has stood for over the past few decades. But it would still take a brave investor to leap into emerging markets today. You might want to look for clearer evidence that the Chinese economy is stabilising and commodity prices have stopped falling.
You might also like to wait to see what happens to emerging markets when the Fed finally does hike interest rates, as that might be an even better buying opportunity. The problem is that if you wait until the picture becomes clearer, by then it is too late. The bargains will have been snapped up.
It would take a brave contrarian to blaze away at emerging markets right now. But it might be worth stockpiling your ammunition.