Emerging markets, getting hammered, may be poised for a relief rally

Emerging market stocks have seen better days.

The EEM, an ETF tracking emerging market stocks, is trading firmly in a correction, down over 10 percent since its January high and falling nearly 5 percent in the last three months alone. Its performance for the month of May is negative for a second month.

Of course, this comes as the U.S. dollar has gained ground and emerging markets fall out of favor. We will say, however, that the dollar is showing signs of finally seeing a short-term breather, which should bode well for emerging market equities.

The greenback's journey

The news of placing a trade war "on hold" should have been quite bullish for the greenback; however, though the dollar index saw an initial bounce after the weekend announcement, it drifted lower through the rest of Monday and slipped in Tuesday trading.

While this was no major reversal, the dollar has become quite overbought in the near term. We wouldn't be surprised to see a pullback in the short term. The dollar has jumped over 4 percent in three months alone.

Emerging impact

Any pullback at this juncture should help the EEM bounce, and it will probably stymie the recent outperformance in the Russell 2000, among other assets. If that is indeed the case, but you believe the dollar's recent rally will reassert itself before long, an opportunity should emerge for investors to rebalance their portfolios.

With all the new developments out of emerging nations like Argentina, Turkey and Venezuela, there are plenty of reasons to be bearish on emerging markets as an asset class; a near-term bounce could provide an opportunity for investors to shift some money away from the asset class if in fact they are concerned.

If the EEM breaks down further, this won't be a technically positive development, particularly if it breaks meaningfully below its February lows. Such a break could even confirm the trend has changed for this popular asset class.

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Michael Santoli

Michael Santoli joined CNBC in October 2015 as a Senior Markets Commentator, based at the network's Global Headquarters in Englewood Cliffs, N.J.  Santoli brings his extensive markets expertise to CNBC's Business Day programming, with a regular appearance on CNBC's Closing Bell (M-F, 3PM-5PM ET). In addition, he contributes to CNBC and CNBC PRO, writing regular articles and creating original digital videos.

Previously, Santoli was a Senior Columnist at Yahoo Finance, where he wrote analysis and commentary on the stock market, corporate news and the economy. He also appeared on Yahoo Finance video programs, where he offered insights on the most important business stories of the day, and was a regular contributor to CNBC and other networks.

Follow Michael Santoli on Twitter @michaelsantoli

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