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Emerging-Market Stocks Continue to Disappoint

NEW YORK (TheStreet) -- Earlier in the month I compared some of the disadvantages that can be found in emerging-market stocks relative to their developed- market counterparts.

Those trends continue, as the iShares MSCI Emerging Markets Index ETF (EEM) is trading at its lowest levels in four weeks, primarily after earnings disappointments. Weakness has been seen in companies like Taiwan's TPK Holding (supplier of the touch screens for Apple devices), which announced its expectation of a 15% drop in third-quarter revenues, and Tata Motors (TTM), which posted slower sales growth at its Jaguar-Land Rover unit.

Another example is AngloGold Ashanti (AU), which fell to its lowest levels in 12 years, a

More broadly, almost 60% of the companies in the MSCI Emerging Markets Index have released reports this earnings season that were weaker than analyst estimates. The benchmark of developing nations has posted year-to-date losses of nearly 11%, while the MSCI World index has seen gains of almost 15% during the same period.

So far, earnings for the second quarter have been disappointing (particularly in the larger tech companies), as slowing sales figures weigh on prospects in developing nations. The result is that price-to-earnings valuations for emerging-market stocks have fallen below 10 (using the MSCI Emerging Markets Index as a gauge), while those in the MSCI World Index now trade just under 14 times earnings.

Looking at the sector level, current trends look even more discouraging.

The MSCI Emerging Markets Index is divided into 10 sectors; each is showing losses for the year. The biggest declines have been posted by tech companies, as a good portion of the sector is dealing with the repercussions of demand declines in PC markets.

But the fact that none of the industry groups in the index has managed to gain traction in a year characterized by strong bull moves in the developed world will continue to create some important questions for long-term investors seeking regionally diversified value.

More Weakness to Come?

The main question investors should be asking is whether the recent declines in these stocks represent a buying opportunity or a warning signal to those still exposed to developing regions. The real answer here will depend on the broader reaction seen in the markets, once the Federal Reserve starts to cut back on its stimulus programs.

But without many fundamental drivers supporting emerging-markets earnings prospects into the end of this year, there is little reason to start betting on an upturn in developing regions.

Add to this the changes in policy that have been expressed in areas like China, where growth rates of even 7.5% have been questioned and the central bank looks to be preparing investors for slowing growth and reduced output expectations.

On a comparative basis, forecasts for GDP growth in the U.S. continue to be revised upward and have quickly approached the 3% level for 2014. In the last 12 years, annual performances in emerging-market stocks have eclipsed the gains seen in the S&P 10 times, but this year, a very different picture has emerged.

Thus far, emerging markets have underperformed the S&P every month, creating a spread of nearly 30% through July. Even if this is not an early indication that long-term trends are coming to an end, it does suggest a period of extended weakness when these stocks are compared to their U.S. counterparts.

At the time of publication the author held no position in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

Richard Cox is based in China, and has lectured at several universities there on international trade and finance, focusing primarily on macroeconomics and price behavior in equity markets. His articles appear on a variety of Web sites, including MarketBulls.net, Seeking Alpha, FX Street and others. Investing strategies are based on technical and fundamental analysis of all the major asset classes (stock indices, currencies, and commodities). Trade ideas are generally based on time horizons of one to six months.

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