Emerging Markets Can’t Seem to Win

Ahead of the opening bell, European equities are lower by about 1% while S&P index futures are recovering from double-digit losses (down 0.5%). Investors are now starting to get a sense of why some option traders have been targeting significantly higher strike prices. Earlier in the week one trader bought 90,000 call options on the May expiration Vix future at the 23.0 strike with the underlying index reading about 12.9 at the time. By Thursday the index closed at 13.77.

Thursday’s losses were assumed to be related to fears of a slowdown in Chinese manufacturing activity while encouraging pressure to build in US markets. However, fears escalated in the afternoon as emerging market currencies proved the escape vent amongst sellers.

For those of you with poor memories, while 2013 turned out to be a stellar year for US equities, the climate proved unsavory for emerging markets. You can find reference back in February last year to Bernanke’s discussion over the inevitable onset of a Fed exit from bond buying, although the real heat didn’t hit until May. That made for a long summer for bond and currency traders in emerging markets. The selling across equities resulted in contagion until early September as US 10-year yields shifted from a low of 1.67% to as high as 3.00% between May and September.

While the perceived threat of rising US yields resulting from a prospective tapering at the Fed sent shockwaves through emerging markets, it ultimately caused the Fed to deny the market what it had promised in September. Those markets recovered prompted by a massive rally across leading markets and was in part fueled by a reversal of upwards pressure on bond yields in the US.

Now that tapering has been announced and the Fed has ratcheted down its monthly pace of purchases emerging markets appear even more vulnerable to signs of cracks in the surface. In the meantime US yields have fallen to as low as 2.72% on Friday in response to contagion fears. As a reminder, on December 18th when the FOMC took US investors by surprise by announcing it would indeed slow the pace of purchases, the yield stood at 2.68%.

While we can’t argue with real selling of hard emerging market currencies and bonds as investors pull in their horns, the pressure on US stocks in the midst of decent corporate earnings seems somewhat misplaced.  For now though, emerging markets can’t seem to escape the shadow of the Federal Reserve.

About Andrew Wilkinson 1023 Articles

Affiliation: Interactive Brokers

Andrew Wilkinson is the senior market analyst at Interactive Brokers Group, where he provides daily commentary and analysis on U.S. equity options trading throughout the trading day. Andrew provides webinars designed to explain option-related trading scenarios covering futures, fixed income, forex and equities.

Interactive Brokers: Interactive Brokers offers direct market access to around 80 electronic global markets from a single account. Successful traders and investors understand that superior technology and lower trading costs can result in greater returns. For 32 years we have been building direct access trading technology that delivers real advantages to professionals worldwide. With consolidated equity capital of US $4.4 billion, IB and its affiliates exceed 1,000,000 trades per day. In addition, our prudent and conservative risk policies make Interactive Brokers a safe haven for your money. Discover some of the reasons why IB, the largest independent US broker/dealer, is the professional traders' and investors' choice.

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