The Sell-Off In Stocks Is More About The US Than Emerging Markets

Last week was pretty ugly for global stock markets, and closed in the red again on Monday.

The responsibility for that misery was placed squarely on the shoulders of emerging markets.

Currencies in emerging market nations like Turkey, South Africa, and Argentina have taken a beating.

But BlackRock’s Russ Koesterich thinks, that while emerging markets did play a part, the decline in U.S. stocks could be “attributed to issues closer to home.”

Stretched valuations and lackluster earnings are also to blame he writes.

“We have discussed previously that last year’s gains were powered primarily by multiple expansion, meaning prices were rising faster than underlying corporate earnings. In fact, 2013 saw the largest single-year increase in market valuations since 1998. As stocks grew more expensive over the last year, bonds became less so. As a result, we have been seeing some investors (notably large institutional investors) shifting more assets into bonds over the past few weeks. This helps explain why bond yields have been declining since the start of the year.

“On a related point, corporate earnings so far have been less than stellar for the current reporting cycle. Last year’s rally was, to a large extent, based on an act of faith that the economy and corporate earnings would improve, which would, in turn, justify higher stock prices. While the economy does appear to be mending, improvements are modest and so far are not evident in corporate earnings reports.

“It is still relatively early in the fourth-quarter reporting season, and to date, the results have been respectable, but hardly inspiring. The percentage of companies that are reporting better-than-expected results is actually below the four-year average, which appears to be frustrating investors. We’re seeing this frustration in the form of fund flows: U.S. equity funds have been seeing outflows, while European and global equity funds have been attracting assets.”

Koesterich thinks investors should prepare for more volatility this year and thinks investors should diversify into international stocks.

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