Emerging Market Stocks Return to Investors’ Favor in July Beat

(Bloomberg) -- This was the month when emerging-market stocks buried the ghosts of March.

Developing-nation equities rallied twice as fast as their developed-market peers in June, for the longest streak of gains since April 2019. In doing so, they added $1.8 trillion to their market value, and recouped the last of the $5.8 trillion lost to the rout during the first quarter.

Firmer valuations and rising earnings estimates suggest confidence is returning as investors bet on a weaker dollar, economic recovery led by China and capital inflows spurred by a global wave of liquidity. Options traders are cutting expectations for volatility in emerging-market equities, while technical indicators signal the positive momentum will continue.

Emerging-Market Stock Bulls Still Rule as Signal Screams ‘Buy'

Investors concerned about U.S. equity valuations after a rally led by technology stocks and mixed corporate-performance updates in Europe are gradually shifting to emerging markets, which offer an average 36% valuation discount.

• The MSCI Emerging Markets Index is heading for an 8.7% advance in July, compared with a 4.6% gain in developed markets and 4.7% for the U.S.
• With the Stoxx Europe 600 Index little changed in July, the emerging-market benchmark rose to the highest level since May 2018 versus European stocks

• Analysts raised earnings estimates for emerging-market companies by the fastest pace since January 2018, when the U.S.-China trade war ended an $8 trillion rally
• Despite a negative impact from the rebalancing of the MSCI index, profit forecasts are now at the highest level since April 22

• Investors now pay more to own emerging-market stocks then they did before the global outbreak of the coronavirus. The price-earnings ratio, based on inflation-adjusted earnings, is at the highest since December
• Valuations, based on 12-month profit projections, climbed for a fourth month, the longest streak in three years
• Implied volatility on the main emerging-market equity exchange-traded fund eased for a fourth month, its longest streak of declines since April 2019
• Emerging markets are now less volatile than U.S. stocks -- they have maintained a negative volatility spread with the VIX since July 15

As July gives way to August, a period traditionally marked by low volumes and high volatility, all the risks that unnerved investors earlier this year remain.

• The coronavirus is spreading so fast in emerging markets that the 26-nation group now accounts for half of all infections globally
• A recessionary wave is taking hold among smaller emerging economies, while growth remains patchy in Asia

Yet, this month has offered evidence that investors aren't giving up on emerging markets. With an increasing bias in favor China and fiscally stable economies, they are buying stocks at every dip.

©2020 Bloomberg L.P.