Forget The S&P, These Investments Have Much More Upside

The S&P 500 broke 1860 last week, nearly 13% down from its 52-week high last May and into correction territory. With no bottom in sight for oil prices and question marks on global growth, fresh calls come out daily for an end to the seven-year bull market.

If the market does fall 20% from its high to make the official mark for bear territory, it would be one of only seven other times it’s done so in the last 50 years according to Yardeni Research. 

#-ad_banner-#If you believe the old maxim to buy when there’s blood in the streets, today could turn out to be a profitable entry point for investors. In four of those seven bear markets, stocks were up an average of 28% within a year and were up an average of 8% one year following all seven declines.

But investors won’t have to wait for the S&P 500 to reach its bear inflection point to start finding bargains. I’ve found another market that is already down nearly 40% from its 52-week high — and some short-term catalysts could mean a rebound. Beyond the near-term upside, this market has strong long-term fundamentals to take it even higher.

This Bear Market Is Well Under Way 
The emerging market space has been in a bear free-fall since last August. The iShares MSCI Emerging Markets (NYSE: EEM) is now down 36% from its 52-week high. Slowing growth in China has pummeled demand for industrial metals of which many emerging markets still depend for exports. The surging dollar and falling currencies have brought back the specter of inflation and investors are fleeing for safety in U.S. stocks. 

Latin American stocks have sunk so far and so quickly that their plunge from the average has a z-score of negative three, the probability of which is less than 0.07%.

But the current investor exodus is nothing new for shares of fast-growing emerging markets. Using the Templeton Developing Markets Fund (TEDMX) as a proxy, the EM space has gone through seven periods of boom and bust just since 1991. The index more than doubled the return on the S&P 500 over the three years to 1994 only to plummet after the Mexican currency crisis. Over the four years to 2007, shares of emerging market stocks jumped 314% against an 82% gain in the U.S. index.  

The fact that massive devaluations in currencies across the EM space have not led to the currency crises that were typical of the 90’s is a good sign for the theme. It’s shown that central bank inflation targeting has helped to control pricing pressures and the economies have grown beyond simple export markets of oil, copper and gold.

Are Better Times On The Horizon For Emerging Markets?
Against the investor exodus and plunging stock prices, there are catalysts on the horizon for emerging market stocks. Even on slowing growth, China 2016 GDP forecasts are for 6.3% and an addition of $694 billion to the world’s economy. Global stock markets bounced late last week when European Central Bank President Mario Draghi hinted at March stimulus and said that there were “no limits” on how far the central bank would go. 

The U.S. Energy Information Administration (EIA) expects U.S. oil production to fall by 7.4% this year even as consumption increases. Production across non-OPEC countries is expected to fall this year for the first decline in supply since 2008. The production decline could turn investor sentiment and send oil prices jumping off their 12-year low.

I recently made the case for interest rates to stay well lower than expectations and pointed to the fact that rates on the 10-year Treasury have fallen by 0.25% since the Fed raised the Fed Funds rate in December. Sticky rates near historic lows could take some wind out of the greenback’s feverish run higher, helping to send commodity prices and other currencies jumping.  

Over the longer-term, emerging markets are set to benefit from demographic and population tailwinds for faster economic growth. Aging workforces in the developed world will need emerging markets to produce more goods for global consumption. The World Bank forecasts developing economies to generate growth of around 5% annually, nearly twice the rate of growth in the developed world.

Create Your Own Emerging Market Fund From These Standouts
While the region is not as popular as Asia-Pacific with EM investors, Latin America was one of the first to rebound from the global financial crisis and middle-class growth is driving strong retail sales across the region. Brazil has always been the popular pick for investing in Latin America, but socialized corruption and overspending on the World Cup and Olympics make it more of a gamble than an investment. Unfortunately, the regional iShares fund still over-weights its holdings with 42% on Brazilian companies. 

Many of the countries in Latin America benefit from their trade relationship with the United States, a factor that will help their economies grow compared to other emerging markets more closely tied to slowing China. On the potential for a rebound in the region, the best way to profit may be through individual country funds.

There are four countries in Latin America that have the clear advantage in economic freedom and GDP growth. Mexico benefits from its trade relationship with the United States and reforms under President Nieto. The economy is expected to grow between 2.6% to 3.6% this year on a strong job market. The iShares MSCI Mexico (NYSE: EWW) is off its high by 27% and trades for 17 times trailing earnings.

Colombia has been one of the hardest hit on the selloff in oil prices but the central bank forecasts growth of 3% in 2016, helped by an aggressive infrastructure spending plan by the government. The Global X MSCI Colombia (NYSE: GXG) trades for 11 times trailing earnings and is 47% off its 52-week high.

Chile has long been the free market example in the region and has built a stabilization fund of $13.8 billion to limit effects of low copper prices. BBVA Research sees economic growth this year of 3.5% and lower inflation may help to support the currency against the dollar. The iShares MSCI Chile Capped (NYSE: ECH) trades for 13 times trailing earnings and is 34% off its 52-week high.

Peru liberalized its markets later than neighbors but has been enjoying much faster growth as its economy plays catch-up. GDP growth this year is forecast at 4.6% and could grow 6.0% in 2017. The iShares MSCI All Peru (NYSE: EPU) trades for just 11 times trailing earnings and is 43% off its 52-week high.

Risks to Consider: Volatility in the four funds will be high until the dollar weakens or commodity prices stabilize. Catalysts are coming to push prices higher but it could be the second half of the year before the markets rebound.

Action to Take: Build your own Latin American regional fund with ETFs on the four best economic stories in the theme. Take advantage of blood in the streets on the current selloff ahead of the rebound.

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