Emerging Markets to US valuation ratio falls to its lowest since 2008

ET Intelligence Group: For the emerging markets, the current equities weakness doesn’t feel as hopeless as the 2008 meltdown — at least on paper. But stock valuations at EMs, relative to the US, show that Wall Street’s price-earnings multiples have climbed more than in emerging economies, and that the aggregate valuation ratio is at its lowest since the subprime crisis.

The relative PE reading of the MSCI EM index, compared with the S&P 500, has dropped to 0.64 this month, the lowest since October 29, 2008, according to Bloomberg. The 10-year average relative PE ratio of the MSCI EM and S&P 500 stood at 0.77. Interestingly, the ratio has been dropping from the peak of 0.98 in 2009 because of the consistently higher multiples expansion in US stocks.

This is the prime reason US stocks now account for a record 62.5 per cent of global market capitalisation, up from less than 40 per cent a decade ago. Emerging countries together account for about 22 per cent of total market capitalisation, of which China alone contributes 40 per cent. And China has not participated in the market rally in the past few years.

Trade wars and rising US yields have further depressed EM assets. Hence, the MSCI EM index dropped 22 per cent from the recent high. IMF in the October review downgraded GDP growth of EMs by 20 bps to 4.9 per cent for the current fiscal as compared with their July review. IMF believes growth is plateauing. Furthermore, a sharper than expected interestrate increase in the US could enhance the risk of capital flight.

That could impact FPI flows and compress P/E ratios in Mumbai. India’s premium to the MSCI EM index is still trading at 56 per cent, compared with the 10-year average of 37 per cent. Because of India’s outperformance between January and August, its weightage in the MSCI EM index reached the record high level of 10.4 per cent.