Emerging Markets Are on the Rise, Buy Now?

 | Jul 12, 2013 | 5:30 PM EDT  | Comments
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vt

After being beaten down in the first half of this year, emerging market are finally on the rise. This raises the question: Is now the time to buy? I'm going to go with a "possibly... but..." response.

The real answer to this question rests upon my objective at the moment. Am I looking at the position as a long-term investor, or am looking to capitalize on the smaller daily price swings? Am I willing to hold through a retest of the lows, building a position on the smaller time frames, or do I want a stronger upside continuation right from the start?

One of the popular ETFs for trading the emerging markets is the SPDR S&P Emerging Markets (GMM). It's been on the move since pivoting off prior weekly lows on June 24. An initial swing higher too into the 20-prior moving average zone and a closure of the June 20 gap, which corresponded to the 38.2% Fibonacci retracement. It then corrected along resistance before breaking higher once again yesterday.

This second daily push to the upside takes the ETF squarely into price resistance from mid-June congestion. Nevertheless, as a continuation pattern off lows, there is still room for the rally to continue into early next week and the upper end of that daily channel with a larger 50% retracement. This next level to the upside for resistance also corresponds to price resistance from last November.

What happens next, however? At this point it's worth heading to the larger time frame. On the weekly charts the drop into 2012's lows was an extreme one. The downside momentum was substantially stronger-than-average and the ETF pivoted cleanly off the prior lows. This creates a strong probability that at least the zone of those lows will be retested even if the ETF continues to hold them in the longer term.

A glance back at the 2011 and 2012 lows offer perfect examples, where the price points at which the downtrend channels broke to the upside served as support several weeks to several months later and the overall uptrends that emerged were a lot more gradual than the sharp flushes into the lows.

From a technical standpoint, there is another reason to consider a pullback on the horizon. As we saw with the daily chart of the SPDR S&P 500 (SPY) over the past several months, corrective moves in the market tend to come in two waves, and we've just seen on the daily charts that the SPDR S&P Emerging Markets ETF is in the middle of that second move now, leading to a strong likelihood that prices will begin to fall back into the zone of prior lows, around $57.50 to $58, as early as next week.

One of the major concerns I have for the long-term bulls rests on the monthly time frame. After retesting the zone of the 2007-2008 highs in 2011, the SPDR S&P Emerging Markets ETF fell sharply on the monthly time frame. This is an extreme momentum move similar to what has taken place on the weekly chart. Last month's lows mark the third test of the lows from that 2011 selloff. The third test of support is the test most likely to break.

Additional factors that could contribute to such a break include the slower upside off the 2012 lows than the move off 2011 lows, shifting momentum in favor of the bears, and the fact that both rallies held the lower two-thirds of the 2011 selloff at the 61.8% Fibonacci retracement point. These traits suggest that the current rally over the past two weeks may merely be a pause before the larger channel on the monthly time frame gives way on the downside.

My own strategy at this point is to focus on the daily swings. I'm bullish intraday right now, but  I'll be watching the upcoming daily resistance for a reversal on the downside and then gauge the momentum of that selloff to determine whether or not it's worth trying to buy into the next test of support. I am not convinced that this rally is anything more than a "dead cat bounce," nor that emerging markets are really emerging out of their downtrend cycle. If they are, however, expect the road to rocky and focus on relative strength. One example is the Vanguard Total World Stock ETF (VT), which has consistently outperformed most of the emerging market ETFs to date, although it is also coming into daily resistance.

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