Emerging Markets to Trail More on Breakdown: Technical Analysis

Emerging market stocks’ relative strength chart to U.S. equities produced a “head and shoulders breakdown” pattern, a signal developing countries’ shares will continue to underperform next year, Bank of America Corp. said.

The ratio of the MSCI Emerging Markets Index to the Standard & Poor’s 500 Index reached a 16-year high of 0.96 in October 2010 and stayed mostly above 0.80 from May 2009 through September this year, forming a two-year “head and shoulders” pattern, and has declined since then, data from Bloomberg and Bank of America show. A head and shoulders pattern is formed by three consecutive peaks on a chart, the highest in the middle.

“The relative chart of MSCI Emerging Markets index to the S&P 500 has a massive head and shoulders breakdown,” Mary Ann Bartels, New York-based head of U.S. technical and market analysis at Bank of America, wrote in a note dated yesterday. This is “the biggest risk we see for 2012,” she wrote, and “suggests emerging markets should significantly underperform the S&P 500 as we enter 2012.”

The emerging market index has slumped 20 percent this year, compared with a loss of 1.7 percent in the S&P 500, amid concern economic growth will slow from China to Brazil. The Shanghai Composite Index yesterday fell to the lowest level since March 2009 as data showed exports in the largest developing country rose by the least in two years.

The ratio of the emerging markets index to the S&P 500 sank to 0.73 in October, the lowest level since April 2009. A falling ratio shows emerging markets are lagging behind the U.S.

The gauge for emerging-market stocks beat the U.S. index in nine of the past 10 years, on optimism that faster economic growth would bolster earnings for companies from China Mobile Ltd. to Petroleo Brasileiro SA.

Losing in 2012 would mark the first time since Russia’s default in 1998 that developing countries underperformed for two consecutive years, Bloomberg data show.

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