The widely followed MSCI Emerging Markets Index is lower by 6% this year, but some market observers believe emerging markets equities are offering compelling value.
Despite the relative weakness year-to-date in emerging markets ETFs, other market experts may view them as underpriced based on a price-to-estimated earnings ratio that is at its lowest within the last two years. The ratio for the MSCI Emerging Markets Index is below its historical average of 11.4, reaching about 11.2–signs that possible buying opportunities exist.
Some investors have remained fond of emerging markets ETFs, including the iShares Core MSCI Emerging Markets ETF (NYSEArca: IEMG).
“The MSCI Emerging Market Index is trading at 13.5 times trailing earnings and 11.3 times forward earnings. The former represents a 26% discount to developed markets. Based on price-to-book (P/B) EM stocks look even cheaper, with a 30% discount to DMs the largest since the summer of 2016 and significantly below the post-crisis norm of around 17%,” according to BlackRock.
Emerging Markets Issues
Important to the emerging markets thesis is improving economic data, which has recently been appearing.
“After a dismal spring, EM economic data is starting to improve, at least relative to expectations,” said BlackRock. “This year’s underperformance coincided with a rapid deterioration in EM economic prospects. From late March through mid-June the Citi EM Index of Economic Surprises plunged from +40 to -25. In other words, economic data went from reliably beating expectations to chronically missing estimates. Since mid-June things have started to look better; economic data is strengthening relative to expectations.”
Related: 3 Reasons to Revisit Emerging Markets ETFs
The recently resurgent U.S. dollar could be one reason why investors are retreating from emerging markets equities. A stronger dollar raises external financing costs for developing economies and usually leads to lower commodities prices, a relevant point because many developing commodities are major commodities exporters.
Investors considering emerging markets should consider ignoring near-term noise, such as fund flows, and focus on fundamentals.
“As painfully demonstrated, despite secular improvements in current account positons and financial stability, EM assets are still vulnerable to tightening U.S. financial conditions. This is particularly true when Federal Reserve tightening is accompanied by a stronger dollar. With the U.S. economy experiencing good momentum, the Fed is likely to continue to tighten into 2019,” according to BlackRock.
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