Trader’s Narrative

We know what the US market is doing, shrugging off every single negative news and floating higher almost effortlessly. But what about the emerging markets?

One of the strongest emerging markets before the recent bear market was Brazil and it has come roaring back with a vengeance. If you think the recent gains, whether a bear market or the real thing, are impressive, then consider Brazil’s gains.

Similar to almost all world markets, the Bovespa started the last bull market in late 2002 and went almost non-stop until late May 2008. As a sign of the impressive relative strength, it shrugged off any signs of a top in October 2007 and went sideways as other markets around the world weakened and fell. Then in early May it surged to new highs, to then reverse and form a top.

Using simple Weinstein stage analysis, it was easy to see the trouble signs. But even after such a strong showing the index still fell 60%. It reached its low in October and in the following months, every single low was higher than the previous one.

While the US market struggled, falling lower still in March, Brazil was already trading 19% higher than its October 2008 low. As of today, it has made an astonishing 70% gain from the extreme low of last year.

I don’t know enough about the fundamentals to make a case but I imagine it would refer to the fact that the Brazilian banks were, for the most part, left unscathed by the financial mess that enveloped US and European banks. And also the turbo boost provided by Brazil’s commodity wealth can’t be ignored. They produce everything from soybeans to precious metals.

But all that can be encapsulated in the relative strength of BOVESPA to the S&P 500 index. It has already surpassed the previous high it set in 2008.

There are a few ETFs for the country:

• iSHARES Brazil ETF (EWZ)
• WisdomTree Dreyfus Brazilian Real Fund (BZF)

As well, there are many ADR’s like:

• Petrobras (PBR)
• Itau (ITU)
• Banco Bradesco (BBD)
• Brasil Telecom (BRP)
• Brasil Telecom (BTM)

While continued heady gains are improbable in the short term, a pull back would bring prices back to the 150 day moving average (in red) which is slowly flattening out. This would then provide a platform from which it can realistically challenge the previous highs.

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With commodities in a bear market, having corrected sharply from just a few months ago, the white hot emerging markets which relied on them for their valuations, have stumbled badly.

Here is the Russian stock market:

Notice that a long term support line going back to 1999 has been decisively broken. The index is now trading at almost half of what it fetched in May 2008. This reminds me of the Chinese stock market - which has only gotten worse since the last time I featured it in gory detail.

Here is the long term chart of the Brasilian stock market, another heavily commodity dependent equity market:

Although BOVESPA has fared slightly better than the Russian stock market, it too has clearly broken its long term support line going back to 2002.

So what does this mean?
First, a snap back bear market rally is on cue and wouldn’t surprise most here. The nature of prices and markets does not allow for a relentless fall, nor a non-stop rise.

Second, this is yet another reminder of the cyclical nature of emerging markets. They are notorious for running from hot to cold and back again. Which can be great if you keep a disciplined approach and respect your stop losses.

Third, the consequences for the more developed markets is muted since they would only gain from an easing in inflation and reduced raw material costs. While the US markets have not been anything to write home about this year, they have held up much better than these markets. And with the cycle turning from real goods to “paper goods”, that outperformance can only continue.