We have been rather surprised at the strength of emerging stock markets over the last few months. We were expecting emerging markets to recover, but to be honest we were not expecting them to recover well ahead of developed markets (the Dow in particular). It seems that there is more upside to come given the strength of the broad market. Note from the charts below that both large caps (EEM) and small caps (DGS) have made registered multi-week highs again and have almost made back all the losses sustained in Sept & October last year! Also note the apparent lack of a deterioration in momentum:
Why do we look at small cap stocks? They give a very good indication of the underlying mood of the market. There is something else we should take note of……and that is the performance of emerging market sovereign debt (bonds issued by emerging market countries) relative to US Treasuries. We have found that the bond market more often than not picks up problems with “risk taking” well before the equity market does. In closing at a multi-week high, the chart below suggests that buyers of emerging market government bonds are far aggressive than buyers of US Treasuries. This tells us that we should not at all be surprised to see more upside in emerging equity markets (and world equity markets in general) over the coming weeks.
