Emerging markets have performed dismally over the past three years. The bellwether MSCI index has moved essentially sideways over that period while losing a whopping 40% of its value relative to the S&P 500. After such a severe underperformance, the sector is now beginning to show signs of improvement.
The chart below shows that EEM (the bellwether emerging market fund) recently tested its 2008 bottom in terms of relative strength versus the S&P 500. This makes the rally since July 2013 especially interesting. The depths of 2008 are a pretty severe test for any macro market, even in relative terms.
EEM now faces a technical hurdle near $45/share. A move through this level would be very constructive, presenting the first higher high since 2010 while negating a large Head & Shoulders topping pattern in progress since 2009. A convincing move above $45 would covert a distribution process into a base-building process with upside targets of $55 and then $90/share. Paraphrasing esteemed market strategist, Walter Deemer: “A failed Head & Shoulders top is one of the most bullish patterns on earth.”
What about valuation? As of August 30th, the MSCI index upon which EEM is based had trailing and forward multiples of 12x and 10x, respectively. These levels are relatively cheap versus other world markets, offering the potential to achieve the price targets suggested above without going too far out on a fundamental limb.
Bottom line? Emerging markets have become very interesting from both a technical and fundamental perspective. This sector should be closely monitored for further signs of strength. But there’s no need to jump the gun. If the sideways action since 2009 has been a giant basing process (rather than a large Head & Shoulders top), there should be plenty of upside after a bull market has been established. A new uptrend is likely to be measured in years rather than weeks or months.
Chart courtesy of www.freestockcharts.com
© Charter Trust Company
