Markets around the world pulled back the reins Tuesday, as central banks look to taper quantitative easing. Japan's central bank decided to hold its current pace of monetary policy steady, which has effectively cut the Nikkei down 1.5 percent on the day, and affected markets across the globe. The Dow was knocked down 165 points at the open, and the yield on the 10-year U.S.Treasury note rose to a 14-month high.
On Tuesday morning, the iShares Emerging Markets Index Fund saw 55,257 July 35-strike puts being purchased by a trader for $0.29 each, costing him a total $1,602,453. This is a bearish bet on the Emerging Markets ETF (EEM), with expectations that by July expiration, its price will dip below $34.71. EEM opened the day at $39.32, and for this trader to break even on the trade, the ETF would have to drop by more than 11.7 percent in a little over a month.
EEM opened the day 1.9 percent down from Monday's close, and since hitting a 52-week high in early January, it has fallen by over 13 percent. While this may make it sound like 11 percent is not too big of an estimate given the bearish trend that EEM has been experiencing, the drop between early January and now took place over a much longer time period than between now and when the July puts expire. EEM also showed a slight rally from mid-April until early May, but it fell short of the January high by about 2.3 percent and has declined ever since.
Another way to analyze the stock technically is to compare the moving averages. On Friday, the 200-day moving average crossed above the 50-day moving average. This is known as a "death cross," because when the long-term moving average pushes above the short-term moving average, it hints at a future bearish trend. EEM has already shown bearish behavior, and this "death cross" could mean that the decline will continue. Looking at historical data, the 50-day moving average dipped below the 200-day moving average last summer, and EEM reached its 52-week low a month later.
It is also important to pay attention to the actual health of emerging countries relative to others. When you look at currencies such as the Thai baht, South African rand, and Brazilian real, there is a noticeable depreciative trend compared to the U.S dollar. For the past month and a half, the value of the dollar has appreciated steadily against the baht (by 7.8 percent), the rand (by 13.7 percent), and the real (6.7 percent). This indicates that the economies of these emerging economies are not doing as well as the U.S. economy, and therefore money might begin to flow from them into the U.S.
The U.S. economic policies engender an advantage over emerging markets as well. Investors now expect to see the Federal Reserve taper its quantitative easing at some point, and thereby decrease bond prices as yields rise. This would cause risk-averse investors to put their money into U.S. bonds in order to capitalize off the higher yield and lower risk that these bonds would provide compared to emerging market investments. This would draw money out of these markets and bring money into the United States.
With all that said, however, this trader appears to be betting that a huge move will come very quickly—so it will be interesting to see whether it actually pays off.