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After weeks of struggling, global stocks stabilized last week. However, market volatility remains elevated. Looking at realized returns over the past month accessible via Bloomberg data, annualized volatility on the S&P 500 Index is above 30 percent, triple its early August level.
Looking forward, the bumpy ride in the U.S. is likely to continue, given the persistence of several factors, including a pending interest rate hike by the Federal Reserve (Fed) and expensive U.S. stock valuations. Without the tailwind of easier money, U.S. equities will need to get by on earnings growth, of which there hasn’t been much lately, rather than monetary policy-induced multiple expansion.
But while the outlook for U.S. stocks may be muted, I do see potential opportunities in other parts of the world, as I write in my new weekly commentary, “More Volatility on U.S. Horizon Has Sights Turning to Asia.” In particular, Asian stocks, both in Japan and in emerging markets (EMs), look attractive right now relative to other regions.
Two Potential Opportunities in Asia
Last week, Japanese stocks, as measured by the Nikkei 225 stock index, enjoyed their biggest one-day advance since 2008. Investors were encouraged by Prime Minister Abe’s pledge to further lower the corporate tax rate. Although implementation of the so-called “third arrow” of Abe’s reforms has been mixed, Japanese corporate profitability continues to improve. The return-on-equity (ROE) for Toyko Stock Price Index (TOPIX) stocks was 8.6 percent in August, up roughly a half point from a year ago, as data accessible via Bloomberg shows. As such, investors may want to consider Japanese equities.
I also see potential opportunities in Asia’s emerging markets, despite my more cautious stance toward the broader emerging market asset class. Many Asian emerging markets, including the Chinese market listed in Hong Kong, have sold off in concert with China, leaving their valuations once again cheap.
In addition, with most countries in emerging Asia running a current account surplus and possessing sizable foreign currency reserves, I believe emerging Asia could be better positioned to withstand a Fed tightening cycle than other emerging markets. This dynamic has been evident in the relative resilience of emerging market currencies, an important determinant of overall return for dollar-based investors. With a few notable exceptions, namely currencies in Malaysia and Indonesia, the currencies in most Asian emerging markets are holding up relatively well against the dollar, as Bloomberg data show. Even in China, despite all the hand wringing over the recent devaluation, the yuan is down less than 3 percent against the dollar this year, according to Bloomberg data. In contrast, as the data show, currencies in Russia, Colombia, Turkey and Brazil have plunged this year.
Finally, many investors assume that commodities and emerging markets go hand-in-hand. In fact, most of the countries in Asia, including China and India, are large commodity importers. They benefit when commodity prices decline. This is in contrast to the situation in places like Brazil, a large exporter of raw materials. Last week Standard & Poor’s downgraded Brazil’s sovereign rating back to junk status. Admittedly, other factors—notably a major political scandal and deteriorating fiscal picture—also played a part.
The bottom line: For all of the reasons mentioned above, I see pockets of value in Asia, both in Japan and in the region’s emerging markets.