NEW YORK (TheStreet) -- If you are an investor and are not familiar with term "Fragile 5," consider yourself lucky. The term was invented last August but resurfaced early this February as emerging markets were down more than 10% on the year.
There was a flurry of headlines at the time about "The Fragile 5," and every major financial news channel had a special on these five Emerging Market countries that were supposedly in a "crisis."
This negativity drove retail and professional investors to capitulate and sell their remaining emerging-market holdings. As such, we saw record outflows from emerging-market equity funds at the February low, and professional money managers were reporting a record underweight in their emerging-market holdings.
Fast forward two months and what has transpired is a classic example of how wrong the crowd can be at extremes. These five countries -- Brazil, India, Indonesia, Turkey, and South Africa -- have all posted substantial rallies since their February lows and are now up on the year (see chart below). So much for fragility.
Even more surprising to many would be that four out of five of these countries are outperforming the Russell 2000(IWM) - Get Report this year. Additionally, emerging-market credit as measured by the iShares JPMorgan USD Emerging Market Bond Fund(EMB) - Get Report is actually outperforming U.S. credit as measured by the iShares iBoxx High Yield Corporate Bond Fund(HYG) - Get Report. This is important as credit typically leads and any remaining notion of an ongoing crisis in emerging markets should be dispelled as their credit markets are outperforming our own.
Emerging markets have had quite a run over the past two weeks, leading some investors to question whether the rally is over. I would ask these same investors to look back at Spain and Italy last year when they began their unrelenting moves higher that continues to this day. Although emerging markets may be short-term overbought here, they are the only major equity group globally that has not participated in the advance over the past few years.
If you look at a 3-year chart comparing emerging markets to U.S. small-caps, this becomes clear. U.S. small-caps are up more than 50% while the iShares MSCI Emerging Markets ETF(EEM) - Get Report is down more than 6% (see chart below). This is an enormous spread from a historical standpoint, and as crisis fears abate in the coming months, the spread could be closed with a sharp move higher in emerging markets. This "Great Convergence" has valuation as a major tailwind, as U.S. small caps are at the highest end of their historical valuations while emerging markets are at the lowest end of theirs.
Overall, as the term "Fragile 5" fades from the headlines, investors would do well to remember the important lesson it has taught us: Reactionary selling of an asset class that has been beaten down for years is rarely a successful investment strategy. This is particularly true by the time the masses get wind of the crisis and the major media outlets are focusing on it.
At the time of publication, the author had no position in any of the funds mentioned.
This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.
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