Janet Yellen's upcoming nomination to be Federal Reserve Bank Chair was greeted with loud cheers in one part of the world – emerging markets. And their enthusiasm may be a reason to buy emerging markets assets.
Yellen is considered one of the more "dovish" members of the Federal Reserve Board of Governors. The dove camp tends to be more willing to sacrifice low inflation for the sake of lower unemployment .On the opposite side of the spectrum are the "hawkish" members, those believe inflation is a potential threat should the Fed get too aggressive with its money printing presses.
The doves are less likely to taper the Fed's $85 billion per month bond-buying program known as "quantitative easing" ("QE").The Fed has been buying bonds to add dollars into the US economy in the hopes of spurring growth.
Back in May, current Fed Chair Ben Bernanke hinted that the Fed would taper QE. Besides adding dollars into the financial system, all this bond-buying lowered the US interest rate to record lows, making investments in riskier emerging markets more attractive; emerging economies' relatively higher yields were enough to entice buyers looking to get a better return on their money.
Once Bernanke raised the possibility of a tapering, though, investors began selling US bonds expecting the Fed won't be as much of a player in that market any more. The bond selloff raised yields on US Treasury notes, making the US markets more attractive relative to others who invested in riskier emerging markets currencies.
Below are most of the countries classified as emerging markets by the International Monetary Fund. From when Bernanke first hinted at tapering (May 21) until the time it was announced that the Fed would not taper (September 18), some of these markets took a hit. Others – like Argentina and Venezuela – soared. But they don't tell the whole story:
|Country||Index||Returns from May 20 to Sep 18||Returns since Sep 18|
|China||Shanghai All Ordinaries||-4%||1%|
|Hungary||BUX Budapest Stock Exchange Index||-1%||0%|
|Indonesia||Indonesia Jakarta Composite||-11%||-1%|
|Malaysia||Malaysia KLSE Composite||0%||0%|
|Pakistan||Karachi Stock Exchange 100||11%||-5%|
|Philippines||Philippines PSE Composite||-10%||1%|
|Poland||Warsaw WIG Index||7%||2%|
|South Africa||Dow Jones South Africa||1%||-3%|
|Turkey||ISE National 100 Index||-19%||0%|
What is just as important for US investors is how their currency did versus the US dollar. When you take that into consideration, some markets aren't as appealing. For example, the Malaysian markets were flat from late May until late September. But, its currency, the ringgit, depreciated by 7%, meaning US investors would have lost 7% during that period instead of break even. During that time, the S&P 500 index was up 3.5%. Since September 18, it's down about 3%.
|Country||Currency||Returns from May 20 to Sep 18 vs USD||Returns since Sep 18 vs USD|
|Peru||Peruvian Nuevo Sol||-5%||0%|
|South Africa||South African Rand||-1%||-3%|
|Venezuela||Venezuelan Bolivar Fuerte (fixed)||0%||0%|
Of course, every market has a different story. From currency controls to investment regulation, it's difficult for the average investor to actually invest in individual foreign markets.
One way to get around this is with an exchange traded fund (ETF) that focuses on emerging markets. One of the bigger ones is the iShares MSCI Emerging Markets ETF (the EEM). It was down 4% from the Bernanke's first tapering suggestion in May until late September. From September 18 to today, its returns are basically flat.
Now that Janet Yellen is expected to be Fed Chair, the prospects look dimmer for an early tapering of QE. That means US Treasury bonds will continue to be bought, lowering interest rates, and making emerging market currencies relatively more attractive. And, it makes emerging markets more attractive in general given their risks.
But is that any reason to buy the EEM?
Looking at the fundamentals and what Yellen means to emerging markets is CNBC contributor Gina Sanchez, founder of Chantico Global. On the charts of the EEM is Talking Numbers contributor Richard Ross, Global Technical Strategist at Auerbach Grayson.
Are emerging markets and the EEM a buy given Yellen's appointment? Watch the video to see what the fundamentals and technicals say about it.
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