An Investing Lesson

| March 05, 2018
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Emerging Markets, Volatility & Valuations

Great insights into the above three themes from WisdomTree.

Emerging Markets Outperform During The Correction

One thing we found interesting was that during the height of the correction, the MSCI Emerging Markets Index outperformed the S&P 500 by almost 150 basis points (bps) on the downside. Given that the EM asset class historically has had a standard deviation about 50% higher than that of the S&P, EM investors who may have expected the performance of EM to be worse than that of the U.S. were likely pleasantly surprised.

Why? Potentially Better Valuations

The EM outperformance brings to mind a concept that Jeremy Grantham has written about: beta is a critical component of explaining relative performance, but valuation can influence beta. Assets that are more expensive relative to their history may experience volatility above their expected levels (and vice versa). When an asset’s price outruns its fundamentals, a downturn in the market can be disproportionally negative when the music stops.

How Historically Has A Spike In Volatility Effected Emerging Markets?

On a closing basis, the recent high on the VIX was 37.32, set on February 5. Dating back to 2007, of all 163 instances when the VIX reached levels at least that high, the MSCI Emerging Markets Index had positive returns over the next year on every single occasion—with the average one-year return at 69.9%. While VIX spikes admittedly were clustered around a handful of key events, the results each time were unanimous.

VIX vs MSCI EM Table

Key Conclusions

The big takeaway from our research? The higher the levels reached by the VIX, the higher the forward returns tended to be for EM.

The tough lesson here for investors is to embrace volatility. Where a rising VIX typically equates to a short-term equity sell-off, EM investors who historically have used the dips as buying opportunities often made out well.


Stay Tuned, Disciplined & Patient! {TJM}

The Investor & Character Equation (ICE) | S + R = O


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