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Wall Street giddy on emerging markets amid overheating signs

[LIMA, Peru] Bulls remained in the driver's seat as emerging markets kicked off 2018 with one of the best starts since the beginning of the millennium.

Equity inflows this past week soared to the highest level since 2006, while debt exchange-traded funds also took in new money. Developing-nation currencies rallied to their highest in almost five years on Friday as stocks hovered near levels not seen since May 2011.

"Risk is on, inflows are here and the global backdrop remains benign," said Edwin Gutierrez, head of emerging markets sovereign debt at Standard Life Aberdeen in London. "Loads of guys will be issuing. I'll be spoiled for choice." Among those racing to secure capital: Argentina, where Mauricio Macri's government is seeking to sell up to US$9 billion in bonds; Mexican state oil company Petroleos Mexicanos; and the State Bank of India.

Supportive data in China, reduced political volatility in South Africa and stronger growth prospects for Brazil have added to optimism.

Still, some analysts wonder whether the rally has money managers overlooking warning signals that a tumble could unfold in the coming weeks or months. Emerging-market currencies are in overbought territory, according to a relative-strength index, while the moving average convergence-divergence - which tracks price momentum - suggests currencies could be near their short-term top, according to Rabobank strategist Piotr Matys. Moreover, the golden cross forming in emerging-market equities, typically a bullish signal, has recently proven to be a warning sign.

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Risk-taking in emerging markets has hit a peak, Societe Generale analysts Alain Bokobza, Gaelle Blanchard and Sophie Huynh wrote in a note. However, they say an expensive dollar could lend support.

Shahzad Hasan, an emerging-market debt manager at Allianz Global Investors, said there's no standout among the new issues. He expects the rally in developing-nation assets to eventually be thwarted by a selloff in US Treasuries spurred by an inflation surprise in the US. Even so, that isn't likely in the short term.

"I am not worried about an EM selloff," Mr Hasan said from London. "Valuations are stretched, but near-term EM spreads can continue to perform."


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