Are Brighter Days Ahead For Emerging Markets?

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by: Russell Investments

On the latest edition of Market Week in Review, Senior Investment Strategist Paul Eitelman and Sam Templeton, manager, global communications, discussed the struggles in emerging markets, the recent uptick in oil prices and expectations for economic growth in the U.S. for the second half of 2018.

Emerging markets skid continues

Emerging markets, as measured by the MSCI Emerging Markets Index, were down roughly 1.5% the week of June 25 in comparison to the previous week, Eitelman said - continuing what's been a dismal stretch for the asset class of late. However, he believes that the valuation story for emerging markets is still a constructive and positive one, especially in comparison to the expensive U.S. equity market. The bigger question, in Eitelman's mind, revolves around cyclical factors - in particular, the strength of the U.S. dollar.

The dollar's strength has been a challenge for emerging markets recently, Eitelman said, adding that he and the team of Russell Investments strategists expect this strength of the currency to fade in the coming months. "Because markets are expecting the U.S. Federal Reserve (the Fed) to continue raising interest rates, any element of surprise should be minimal-which will likely foster a calmer environment for the dollar going forward," he said. This, in Eitelman's view, could open the door for potentially strong fundamentals in emerging markets to guide the asset class higher over time.

"While there will likely still be some volatility in emerging markets, due to continued trade-war worries, I believe that the underlying bottom-up cyclical fundamentals are pretty strong," he concluded, emphasizing that he believes valuations are attractive as well.

Commodities shine as oil prices soar

Shifting to commodities, Eitelman noted that energy prices rose the week of June 25 - despite the recent agreement by OPEC (the Organization of Petroleum Exporting Countries) to boost oil production by a million barrels a day. "Normally, an increase in supply should cause energy prices to fall," he remarked. So, why the continued strength in the broader commodities market?

"In my view, it boils down to solid underlying fundamentals," Eitelman stated, explaining that global demand and global growth remain strong. In addition, the asset class typically serves as a nice buffer and diversifier against late-cycle risks, he said. Eitelman added that in his viewpoint, this may be especially true if inflation continues to rise in the U.S.

First-quarter GDP revised downward in U.S.

Zooming in on inflation, Eitelman noted that the U.S. Commerce Department's personal consumption expenditures (PCE) index, which tracks consumer prices in the U.S., increased 2% year-over-year - matching the Fed's target. On the other hand, the nation's gross domestic product (GDP) growth rate for the first quarter was revised downward, from 2.2% to 2.0%, he said.

"From my perspective, the downgrade is almost entirely noise, as it's largely a result of companies winding down their inventories a little bit," Eitelman stated. In his mind, this could actually be good news for GDP growth moving forward, as he expects demand to remain strong - which means U.S. businesses will likely have to ramp up production.

All told, Eitelman anticipates that healthy economic conditions will persist in the U.S. going forward, noting that rising inflation and a low unemployment rate likely mean that the Fed will continue hiking interest rates. "Ultimately, markets will have to juggle these two forces moving forward," he concluded.

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