Brazil looking oversold by historical standards says Invesco Perpetual

9th July 2013

Fund managers are making the case that for many markets and assets, the nervousness surrounding the tapering of quantitative easing and big withdrawals of money from many global markets, may now mean there is a case for buying equities.

Dean Newman, Head of Emerging Markets Equities at Invesco Perpetual, providing a outlook for the Latin American region, argues that healthy companies have been caught up in an indiscriminate sell off. We run his note in full below including his view using the Relative Strength Indicator the fact that the market is looking oversold in historical terms.

Emerging market indices have come under pressure in recent weeks, none more so than in Latin America.

Slowing domestic growth and political risk events in Brazil have coincided with rising core government bond yields in the Western world, as the US Federal Reserve sets a possible timeline to scale back its stimulus programme.

This has intensified debate that the era of ultra-loose global monetary policy may now have run its course. The uncertainty has had an adverse impact on Latin American equities and healthy companies have been caught up in the indiscriminate sell-off.

We believe that recent stock price weakness does not reflect the long-term attractive fundamentals of the region. Our view, that financial markets have overreacted to the latest events, is also supported from a technical perspective.

One of the most popular technical analysis indicators is the Relative Strength Indicator (RSI). This is a momentum oscillator that measures the speed and change of price movements, normally over a 14-day period.The velocity and magnitude of directional price movements can be computed for individual stocks or indices and is often used in tandem with trend lines and moving averages.

A common rule of thumb is that a score of above 70 signals that market conditions are overbought. A reading below 30 suggests that we have entered oversold territory.

The chart below (Figure 1) shows the RSI for the MSCI Latin America index over the past three years. The current RSI reading is around the 15 level, reflecting the index’s sharp fall in recent weeks.

Print

How does this compare over a greater time period?

The table below shows the top ten most extreme oversold positions since 1986.  Apart from the one occasion in May 2012, we have to go back to the 1998-2001 period to see such a depressed RSI reading.

Figure 2: The lowest RSI scores since 1986, Brazil

27/08/1998 11.1
31/08/1998 12.9
11/09/2001 13.4
26/08/1998 14.2
28/08/1998 14.3
14/09/2001 14.5
12/06/2013 14.7
18/05/2012 14.9
14/01/1999 15.0
13/09/2001 15.0

Source: Datastream 21 June 2013

At the end of September 2001, the MSCI Latin America index was at 719.07.

By the close of June 2008, the index had risen sharply to 4,751.47 – a gain of 560.78%. This equated to an annualised return of 32.23% (capital returns, US$. Source: Bloomberg 27 June 2013).

Although past performance is not a guide to future returns, we believe that current market conditions provide us with great opportunities to buy attractively valued stocks that have been caught up in the recent sell-off.

How to calculate the RSI

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RS = average gain / average loss

The RSI oscillates between zero and 100.

 

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