4 reasons why there could be more pain in store for emerging market stocks

(J Mitchell / Getty Images)
  • Emerging market equities are now in a bear market, having fallen 20% from recent highs.
  • Capital Economics said the recent catalysts for EM declines are unlikely to subside anytime soon.
  • In addition, CE’s Oliver Jones says a pending collapse in US stocks over the medium-term will also drag EMs lower.

After being one of the best performing asset classes in 2017, emerging market equities are now in a bear market.

The FTSE Emerging Markets (EM) stock index has now fallen by more than 20% in 2018. And according to Capital Economics, the outlook isn’t much better.

“We think that there is more weakness to come,” said CE’s Oliver Jones.

Jones noted that one feature of this year’s EM selloff is that it’s been relatively synchronised in nature.

The correlation between different regions — across emerging markets in Europe and Asia to Africa and the Middle East — “has rarely been much higher than it is now”, he said.

“Admittedly, a range of factors – Fed tightening, crises in Turkey and Argentina, the US-China trade war and broader concerns about China’s economy – have affected different EM stock markets to varying degrees,” Jones said.

That being said, he doesn’t expect any of those catalysts to subside anytime soon.

The Fed will press ahead with its tightening cycle. Contagion fears from the Turkish crisis will still linger. And report suggest the US is preparing to follow through with tariffs on another $US200 billion worth of Chinese goods.

As a result, “we suspect that correlations between stock markets in different EMs will remain high, or increase, in the next couple of years as equity prices fall globally,” Jones said.

But even if those factors fade, a fourth problem looms further down the track — the eventual collapse of the US bull market, which has seen the S&P500 climb to a new record high this year.

“We forecast that the US stock market will tumble between now and the end of next year, as cracks start to appear in the US economy,” Jones said.

“Equities in every EM region have tended to slump whenever this has happened, and we suspect that this time will be no different.”

Capital Economics

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