With the Vanguard FTSE Emerging Markets ETF (NYSEArca: VWO) and the iShares MSCI Emerging Markets ETF (NYSEArca: EEM), the two largest emerging markets exchange traded funds by assets, each cruising towards double-digit losses for the year, emerging markets stocks and ETFs are positioned for another batch of dismal annual performances.
While emerging markets stocks and ETFs have extended their run of disappointing investors into multiple years, the claim that developing world equities are inexpensive compared to developed market equivalents remains as loud as ever.
After years of weakness, the MSCI Emerging Markets Index is now trading at 12.8 times 10-year average earnings as of the end of September, compared to the previous low of 13.5 times during the 1997-98 Asian financial crisis and much lower than its long-term average of 25 times average 10-year earnings.
Some fund managers believe it will be a while before emerging markets stocks recover in earnest. Investors pulled out of riskier emerging markets as data showed growth from China’s economy slowed, commodity prices fell and the Federal Reserve signaled an interest rate hike this year. The China slowdown is fueling the lower commodity prices and lower outlook for other major emerging economies. Moreover, rising borrowing costs, a stronger dollar and rising corporate debt loads, with the International Monetary Fund warning of corporate defaults, are adding to volatility. [Area Emerging Market ETF Investors Must Monitor]
“As a result, the valuation premium of developed over emerging equity markets is close to its highest in more than ten years. What’s more on average, emerging-market currencies are now below fair value against the U.S. dollar, following a depreciation which has boosted competitiveness, helping formerly vulnerable emerging economies to narrow their current account deficits. So is it time for investors to take a dip in the emerging market pool once again? If only things were so straightforward. It is true that emerging market benchmarks are trading at a deep discount to developed markets, but the apparent divergence is explained almost entirely by the difference in sector weightings between emerging and developed indexes,” according to Gavekal Research by way of Dimitra DeFotis for Barron’s.