Emerging Market Currencies: What Do They Say About EM Stocks?
Currencies and stocks are correlated -- see what one implies for the other
by Murray Gunn
Updated: December 11, 2017
The following article has been excerpted from Murray Gunn's Dec. 8, 2017 "Currency Insight" page, a section of Currency Pro Services. Watch for more of Murray Gunn's commentary in Global Market Perspective, Interest Rates and Currency Pro Services, and on deflation.com.
Emerging market currencies could be falling out of favor, judging by the price action of the J.P.Morgan Emerging Market Currency Index -- EMCI.
Our chart below shows a potential Elliott wave count since the high in 2011. The January 2016 low came at the end of an impulsive fall which can be labeled as an Intermediate degree wave (3). What gives confidence in this labeling, is that price action since then has evolved in a corrective three wave structure. Indeed, the September peak this year occurred where wave C of (4) equaled wave A of (4). Not only that, but the reversal came close to an internal downtrend line from the 2011 high. The concept of an internal trendline goes back to the classic Edwards & Magee text "Technical Analysis of Stock Trends," first published in 1948. The most basic of technical analysis constructs, the trend line, has to be drawn with a certain amount of leeway, in order to take account of price spikes. There is no objective rule on how to deal with this and so, as the authors note, judgement and experience plays a part. (I can just picture our pure quantitative cousins reeling at that sentence!)
Nevertheless, market analysts should be like detectives -- looking for more than one piece of evidence. So, the wave count, combined with the internal trendline, makes a continuation of the downtrend compelling.
As does the chart below, which shows the EMCI on a daily basis. Wave (4) looks to have been completed with a Head & Shoulders top pattern. Moreover, the neckline is downward sloping, making it even more bearish. And the icing on the cake is that the neckline has just held as resistance on the bounce -- a classic sign that a major reversal in psychology has taken place.
This EMCI chart fits tightly with the relative performance of emerging markets as a whole. They have enjoyed a good run over the last couple of years, outperforming their developed counterparts, but the evidence suggests that a downturn is coming.
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