Emerging Markets Fund Nears Major Sell Signal

The top emerging markets fund has reached major resistance after a three-month bounce off four-year lows, setting up ideal conditions for low-risk long-term short sales that will benefit if COVID-19 continues to weigh on the world's economic engine. That seems inevitable, given an out-of-control epidemic in the United States, which the rest of the world relies upon for a good portion of its annual growth.

BRIC nations (Brazil, Russia, India, and China) make up the bulk of emerging market exposure, but the Asian tiger will ultimately decide this group's fate, with reopening well underway after the world's first major outbreak. However, growing biological and political headwinds are undermining China's journey back to normalcy, with second-wave outbreaks, the seizure of Hong Kong, a border skirmish with India, and U.S. trade tariffs weighing heavily on long-term growth prospects.

EEM Long-Term Chart (2003 – 2020)

Long-term chart showing the share price performance of the iShares MSCI Emerging Markets ETF (EEM)

The iShares MSCI Emerging Markets ETF (EEM) came public in the lower teens in 2003 and entered a historic uptrend, underpinned by rapid Chinese industrialization. It continued to post outstanding returns into the third quarter of 2007, topping at an all-time high in the mid-$50s and turning sharply lower during the 2008 economic collapse. A recovery wave nearly completed a round trip into the prior high, stalling within five points of resistance in 2011.

The fund fell into the upper $30s about six-months later, completing a trading range that contained price action for the next four years. A 2015 breakdown posted a seven-year low in the upper $20s in the first quarter of 2016, ahead of a bounce that remounted broken range support in the summer. Buying pressure surged after the presidential election, booking healthy gains before stalling just two points above the 2011 high in January 2018, when President Trump fired the first shot in the trade war with China.

Subsequent selling pressure held well above range support, but the bounce through 2019 failed to make much progress, finally ending six points under the 2018 high in January 2020. COVID-19 then struck China, triggering a steep decline that found support after violating range support and the .786 Fibonacci retracement of the 2016 to 2018 uptrend. The second quarter bounce remounted the range once again before stalling at 50- month and 200-week exponential moving average (EMA) resistance, which has aligned with a broken two-year trendline.

The monthly stochastic oscillator crossed into a buy cycle in May 2020 before reaching the oversold zone. This bull signal is still in force, but the fund hasn't budged since early June, warning that relative strength may be dissipating at a rapid pace. Weekly stochastics has just crossed into a sell cycle, raising the odds that the monthly indicator will eventually roll over as well. Even so, short sales can wait for a catalyst that dumps price through the mid-June low at $38.50.

EEM Short-Term Chart (2018 – 2020)

Short-term chart showing the share price performance of the iShares MSCI Emerging Markets ETF (EEM)

The on-balance volume (OBV) accumulation-distribution indicator paints a mixed picture, topping out with price in 2018 and entering a distribution wave that hit a 21-month low in December. Healthy 2019 buying pressure lifted OBV to a new high, but price refused to follow, topping out about half the distance back to the prior high. The first quarter decline shows less intensity than the 2018 downdraft but, at least so far, has failed to close the distance back to last year's high.

The second quarter bounce stalled at the .618 Fibonacci selloff retracement level on June 5, while price action into the month's end has carved a sideways pattern at the 200-day EMA. This is a neutral stance, favoring neither bulls nor bears, but it won't take much selling pressure to establish a downtrend that has the potential to reach the deep 2020 low. A breakdown through the 50-day EMA could do the trick, inducing many shareholders to dump positions.

The Bottom Line

The emerging market fund is nearing a major sell signal after a proportional second quarter recovery wave.

Disclosure: The author held no positions in the aforementioned securities at the time of publication.

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