With a 5.98% return in June, emerging markets (EM) eked out a 0.29% gain relative to developed markets (DM) after underperforming by 3.07% throughout April and May when economic data was weakening, but major central banks had yet to formally pivot to their current dovish stance.
Coming out of the recent G-20 meeting with no new tariffs and a commitment to kick start China-U.S. trade talks (as well as the support of central banks), investors may want to consider an overweight to emerging markets relative to developed markets.
What We’ve Seen
Even as developed markets lead in 2019, emerging markets hold a modest 0.51% advantage over the trailing 12 months, but it has been a relative performance rollercoaster as investors have tilted between risk seeking and risk avoidance. Most recently, momentum and relative price change suggests that EM is showing strength against their DM counterparts.
Looking at the below figure, emerging markets suffered to a greater extent than developed markets as the trade war escalated. Since then, they have been playing catch up as sentiment has improved.
While a Bumpy Ride, DM & EM Performance Has Been Close
Source: Bloomberg Finance, L.P., as of July 1, 2018 to June 30, 2019. Data displays the total returns of Developed Markets defined as the MSCI EAFE IMI USD Index and Emerging Markets defined as the MSCI Emerging Markets IMI USD Index over the last year. Past performance is not indicative of future results. One cannot invest directly in an index.
Money in Motion
Over the last year, flows into and out of developed and emerging markets ETFs have oscillated markedly just as performance has fluctuated. Relative flows between the pair have ranged from $4.39 billion in favor of DM in May 2019 to $12.27 billion tilted toward EM in February 2019.
Over the most recent month, investors have favored developed markets with $236.36 million of inflows relative to $654.80 million of outflows from emerging markets, with Developed flows in the 25th percentile and EM flows in the 15th percentile. Relative flows are in the 70th category, but off the recent highs that were above the 90th percentile in favor of developed markets for over 20 days from mid-May to mid-June.
Emerging Markets ETFs Have Been Out of Favor Compared to DM, But Started to Recover
Source: Bloomberg Finance, L.P., as of June 30, 2019. Data represents the daily percentile rank over the last 12-months of the rolling 1-month flows of the U.S.-listed Emerging Markets ETFs and Developed Markets ETFs specifically targeting exposure to broad Emerging Markets and Developed Markets stocks respectively.
Even with major central banks around the globe providing investors with the backing to take risk, the realities of the continued economic slowdown are increasingly difficult to ignore. The existence of these dynamics may require investors to believe that any deceleration of growth will not come without further help from easy monetary policy.
- Manufacturing Purchasing Managers’ Indexes (PMIs) data has deteriorated significantly, with PMIs in 4 of the 5 largest manufacturing countries contracting and the U.S. relatively neutral at 50.6. While Germany’s improved to 45.0 from 44.3 in May, manufacturing has been declining every month this year.
- Looking forward, the weaker economic data provides cover for further easing, especially from the Federal Reserve that may help to drive down the U.S. Dollar and interest rates, which will help to benefit sentiment.
PMIs Across Major Manufacturing Countries Continue to Decline
- Thanks to its unique 150/50 structure, the Direxion MSCI Emerging over Developed Markets ETF [RWED] offers investors to overweight exposure to emerging markets and underweight to developed markets and benefit should the current environment lead to EM outperformance.
- Conversely, the Direxion MSCI Developed over Emerging Markets ETF [RWDE] amplifies exposure to developed markets at the expense of emerging markets allowing investors to benefit relative to long-only strategies if DM were to outperform.
- MSCI Emerging Markets IMI: The MSCI Emerging Markets Investable Market Index (IMI) captures large, mid and small cap representation across 24 Emerging Markets countries.
- MSCI EAFE IMI: The MSCI EAFE Investable Market Index (IMI), is an equity index which captures large, mid and small cap representation across Developed Markets countries around the world, excluding the US and Canada.
Direxion Relative Weight ETF Risks – Investing involves risk including possible loss of principal. The Funds’ investments in derivatives may pose risks in addition to, and greater than, those associated with directly investing in or shorting securities or other investments. Investing in, and/or having exposure to, emerging markets instruments involves greater risks than more developed markets due to the potential for greater market volatility, lower trading volume, higher levels of inflation, political and economic instability, greater risk of market shutdown and more government limitations on foreign investments in emerging market countries than typically found in more developed markets. There is no guarantee that the returns on the Funds’ long or short positions will produce high, or even positive returns and a Fund could lose money if either or both of the Fund’s long and short positions produce negative returns. Please see the summary and full prospectuses for a more complete description of these and other risks of the Funds.
Distributor: Foreside Fund Services, LLC