Some analysts believe the bear-market cycle in the EM and Asia regions could be nearing the end. The war between Russia and Ukraine and the strength of the US dollar have all weighed on these regions. Meanwhile, the fundamentals of these economies remain relatively strong. In addition, global inflationary pressures have further exacerbated price increases in energy and food.
Morgan Stanley strategists believe a classic capitulation trough could be forming
The MSCIEM index has tumbled 39% since its high last September and 66% since the global financial crisis. In addition, an unapologetic hawkish Federal Reserve is boosting the dollar and attracting funds away from emerging markets. Moreover, uncertainty surrounding the outlook of Chinese companies lingers. Chinese companies have the largest weighting in the index, and their outlook has been hampered by escalating tensions with the West. As a result, global EM equity exchange-traded funds have experienced net outflows since the pandemic.
However, while the market has been experiencing a bear market, strategists at Morgan Stanley believe that a classic capitulation trough may be forming in emerging markets. In a recent note, Morgan Stanley researchers identified multiple market inflection points, including a high probability of an EM trough forming in EM stocks, a compelling buying opportunity in Asian stocks, and a turning point in the semiconductor inventory cycle.
The team believes in the long-term dynamics of emerging markets. The team bases its investment ideology on proprietary research, including analysis of country-specific factors that impact returns. This approach incorporates top-down country allocation, stock selection, and country-specific analysis to create a portfolio that maximizes returns in emerging markets.
EM and Asia bear markets bottomed in September or October
The latest Morgan Stanley research suggests that the bear markets in emerging markets and Asia are nearing their bottoms. A combination of recent price gains and a growing number of capitulation signs suggests that markets are likely to bottom in the near future. As such, Morgan Stanley strategists have changed their recommendations to overweight in Asia and emerging markets while maintaining their neutral view on Japan.
The bear market in the Asia-Pacific region has now entered its tenth month. As a result, more market participants expect a recession. One of the key attributes for policymakers is inflation, which could fall much faster than expected due to a weakened labor market and falling consumer demand. However, the fact that consumer inflation expectations have already rolled over suggests that central banks do not require to be as hawkish as they were in the beginning of the year.
While it may be too early to call the markets’ bottom, the past history of bear markets is full of examples of markets bottoming in September or October. Historically, Octobers have seen strong returns and sharp declines. The S&P 500, for example, fell 16.3% in October in 1949 and 17.8% in October in 1929.
Global inflationary pressures have exacerbated food and energy price rises
Inflationary pressures in many emerging markets have been exacerbated by the recent surge in energy and food prices in the global economy. The price of energy has more than doubled over the past year, and the rising cost of food is pushing up prices even in poorer countries. In Yemen, for instance, basic foods cost 85 percent more than they did a year ago. Global food insecurity has also increased, exacerbated by war and conflict in parts of the world.
While food inflation is considered temporary in developed economies, rising food prices in developing nations has pushed core inflation rates higher over the past few years. In Turkey, food market vendors have noticed the impact of rising wholesale food prices and pandemic hours. And they aren’t the only ones who’ve noticed the impact of rising global cereal prices.
Food prices in developing countries are rising at an accelerated pace. According to United Nations data, prices in the country reached six-year highs in January. They have risen for eight consecutive months, which worries investors and policymakers. Especially in emerging countries, food prices are a significant part of consumers’ budgets. In countries like Brazil, Mexico, and Peru, food prices account for between thirty and fifty percent of the total budget.
EM and Asia fundamentals are in a relatively solid position
While most investors have written off emerging markets as “the last hope of investors” or “a bubble”, it’s important to keep in mind the fact that these markets are integrated into the global economy. Therefore, it’s difficult to separate these assets. The questions driving this asset class include whether a soft or hard landing is coming, and what has been already priced in. An oversold sentiment has created the conditions for a tactical bounce, but whether it can be sustained depends on the answer to these questions.
Despite the recent market decline, the fundamentals of emerging markets and Asia are relatively strong. Several factors support this view. In particular, digitalization is transforming production and communication, and the broader economic structure of many countries is improving. In addition, countries in the region are working to combat the threat of deforestation with a program for sustainable land use. Malaysia, meanwhile, is strengthening its financial regulatory framework and has begun efforts to reduce its country’s carbon footprint.
Higher commodity prices have boosted the terms of trade for many commodity-exporting countries. This is positive for their fiscal and current account balances. Meanwhile, their debt valuations have improved significantly.