Investors are favouring US stocks over emerging markets by the biggest margin on record, as fund flows and volatility measures show institutions are seeking the relative safety of American equities.
Almost $95 billion (R958bn) has poured into exchange traded funds (ETFs) of US shares this year, while developing nations’ ETFs have seen withdrawals of $8.4bn. The Standard & Poor’s (S&P) 500 index trades at 16 times profit, 70 percent more than the MSCI emerging markets index. A measure of historical price swings indicates the US market is the calmest in more than six years compared with shares from Brazil, Russia, India and China (Bric).
Cash is draining from emerging market ETFs and flowing into US stock funds at the fastest rate on record as bulls say an unprecedented third year of higher earnings growth will support the S&P 500 even as the Federal Reserve begins to remove stimulus. Developing nation investors say the ETFs will lure more cash after equity valuations reached a four-year low.
“The weakness in emerging markets and the associated economic troubles have encouraged some investors to reallocate from the emerging world to the US,” James Gaul at Boston Advisors said last week. “The US is seen as the most stable economy at the moment, and the equity market is viewed as having better prospects than the rest of the world.”
Stimulus to taper
The S&P 500 slid 2.1 percent to 1 655.83 points last week, paring its gain this year to 16 percent, as data on rising retail sales, subdued inflation and a drop in jobless claims fuelled speculation that the Fed will cut monetary stimulus, known as quantitative easing (QE). The central bank will probably reduce the $85bn in monthly bond purchases next month, according to 65 percent of economists surveyed.
Brazil, Argentina and South Africa led developing nations higher last week, driving the MSCI index up 0.7 percent for the first advance since July. The equity gauge has fallen 9.2 percent this year.
Investors have sent cash to US equity ETFs every month since November last year, with deposits totalling $32bn in July, the most since September 2008, according to data compiled from about 1 500 funds. There have been withdrawals from emerging market stock ETFs in five of the past six months, on pace for the biggest annual outflow since Bloomberg began tracking the data in 2000.
US companies that generate the most sales from Brazil, Russia, India and China have trailed the S&P 500. Firms taking in at least 20 percent of revenue from those countries climbed a median 13 percent this year, according to data compiled on the 41 companies that disclosed financial data from the Bric nations.
Yum! Brands, the owner of the KFC and Pizza Hut chains, counts on China for half its sales. It slid 3 percent last week and posted a 13 percent decline in July same-store sales from China as diners remained reluctant to eat chicken amid an outbreak of avian flu.
Mosaic, the second-largest North American potash producer, has dropped 24 percent this year as Russia’s Uralkali abandoned limits on output that underpinned prices and quit a trading venture with Belarus that controlled supplies from the former Soviet Union. Mosaic gets about a third of its revenue from the Bric nations.
As money has shifted away from emerging markets, volatility has diminished in US equities. The S&P 500’s 30-day historic movement indicator has fallen 29 percent to 8.75 this year, while the measure for the MSCI benchmark of 21 developing nations has surged 83 percent to 13.3.
“Investors are going to go where they’re treated best and right now the US stands out,” Bruce Bittles, the chief investment strategist at RW Baird, said last week. “A lot of bearish sentiment is building in emerging markets. Eventually, once it reaches extreme… it will provide a strong base for the markets to rally from.”
Cisco Systems said last week that it was cutting about 5 percent of its workforce amid weaker overseas sales, including China. The company’s ability to meet its long-term growth target of 5 percent to 7 percent a year would partly depend on emerging markets, chief executive John Chambers said.
Cisco generates about 42 percent of revenue outside the US and Canada. The stock tumbled 6.8 percent last week.
“The changes in macroeconomic conditions in the emerging markets, both positive and negative, are driving more inconsistent growth,” Chambers said last week. “We need some consistency there. We’re not seeing it.”
Capital is fleeing developing nations as China’s economy grows at the slowest pace in 13 years, India’s current account deficit widens to a record, and persistent inflation in Brazil erodes purchasing power. The share losses are a reversal from the past decade, when the countries led gains during a commodity boom and rising consumption from the middle class.
The potential reduction in US stimulus has strengthened the dollar against 14 of the world’s 16 major currencies this year, attracting global investors to appreciating asset values. In countries such as Brazil, the weaker exchange rate makes imports more expensive and threatens to drive prices for consumers higher. The Indian central bank raised two interest rates in July to contain the rupee’s decline.
“Slow growth, more inflation and tightening central bank policy is not a good combination,” Michelle Gibley, the director of international research at Charles Schwab, said. “Part of the whole idea of QE was to push investors into riskier assets, and now they’re doing the opposite.” – Bloomberg