The flat returns for the last thirty and ninety day periods include a complete market collapse followed by a partial recovery. Just three short weeks ago, Europe (IEV) was down 14%, Emerging Markets (EEM) 17%, Australia (EWA) and China (FXI) almost 20%, and S. Africa (EZA) 25%, relative to their mid-July peaks. The reversal was rapid, and many of the hardest hit indexes gained ten to fifteen percent by the end of the August, only to stall in the first week of September.

China (FXI) and Hong Kong (EWH) shares are now higher than they were prior to the sub-prime correction in mid-July, but they are the exception to the rule. Most country indexes are still five to eight percentage points lower, and a high level of uncertainty remains in the market. Volatility is highest in emerging markets and 30-day historic volatilities in the 40s and 50s are common. This is equivalent to the volatility in a share of Goldman Sachs (GS) or Toll Brothers (TOL).

While many predicted that a global flight to quality would devastate emerging market shares, the opposite seems to be happening. Over the past ninety days, a +6.5% point performance advantage has emerged between the Emerging Market index (EEM) and the Europe 350 (IEV). This has helped two emerging market countries, S. Korea (EWY) and Brazil (EWZ) move to the top of the rankings, as a result of both their rapid rebound and their still very reasonable share valuations.

Over the past year, high earnings growth has helped push share prices higher in all of the indexes studied. During that period, earnings in emerging markets have increased almost 18%, as compared 11% for developed countries. This earnings growth, combined with the recent price drop, has helped PE ratios remain at historically low levels. The average PE ratio is only 13.2 for Europe (IEV), 15.3 for the USA (SPY), and 15.6 for Emerging markets (EEM).

In this graph the indexes of the world form an upward sloping line as investors are willing to pay more for higher growth stocks. However, two countries, Taiwan (EWT) and S. Africa (EZA), both located in the lower right, have the highest earnings growth and may be 10% to 20% undervalued based upon their relative positioning.

Some analysts have suggested that a bubble is forming in emerging market shares given the extremely high returns for the past year. This may be true for China (FXI), but for other emerging markets, the generally low PE ratios don't support this thesis. While persistent YoY share increases of 25-50% are not sustainable, the current level of earnings growth and valuation appears reasonable when compared to the broader markets.

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