Capital flows to emerging markets suffered a sharp drop in October

What was seen last month in terms of capital flows to emerging markets can be considered a sign of attention since the lowest level since last April. This is what is reflected in the capital flow monitoring of the Institute of International Finance (IIF), which shows only a net balance of US$1.9 billion, when it came from levels of more than US$40,000 million average.

For the economists of the “think tank” of international banking This only underscores the fragility of investor sentiment amid heightened geopolitical and market risks. This reflects that, in the run-up to the presidential elections in the US and in the midst of escalating tensions in the Middle East, Global investors recalculated the return versus risk equation.

“The divergence between equity and debt flows was particularly stark in October, as equity markets experienced a significant sell-off while debt attracted stable inflows.”explains Jonathan Fortun, economist at the IIF.

The “Capital Flows Tracker” prepared by the entity shows that Last month, equity flows were deeply negative with a total outflow of US$25.5 billion, the steepest monthly drop this year. “This trend was greatly influenced by changes in sentiment, amplified by uncertainty around the US elections,” Fortun notes.

Suffice it to highlight that Chinese stocks alone experienced outflows of $9 billion according to IIF monitoring, linked to regulatory concerns and slowing economic growth that reduced investor appetite despite the policies recently introduced in the China local market. In this sense, the IIF considers that despite the specific flexibility measures of the Chinese government, investor confidence remains low.

New airs, new winds?

According to the IIF’s reading, these dynamics have driven substantial changes in the market, where Growth concerns and regulatory uncertainty continue to deter foreign investment in China. But beyond China, stocks in the rest of emerging markets have generally struggled to attract capital on a sustained basis in recent months, largely due to macroeconomic challenges and the strength of the dollar.

Says Fortun: “Political risk in certain emerging market regions, coupled with expectations of slowing growth, has left investors increasingly cautious about riskier assets, particularly stocks.” Furthermore, they maintain that as global monetary policy remains a central focus, concerns about the strength of the dollar relative to emerging market currencies have amplified risk aversion in equity markets. “This shift aligns with the expectation that yield spreads and interest rate paths may increasingly favor emerging market debt over equities as global risk aversion increases.” , explains the IIF.

Appetite for bonds

In relation to the bond market, debt flows, on the other hand, demonstrated resilience, with a net inflow of US$27.4 billion in October, according to the Capital Flows Tracker. According to the vision of IIF analysts, This strong performance in emerging market debt markets reflects a search for yield amid current uncertainty, as well as the relative attractiveness of fixed income assets in an environment where stocks are perceived as more vulnerable to shocks.

Fortun elaborates by pointing out that “this result also denotes the positioning that investors had in the period prior to the elections, in which less volatile fixed income assets were preferred.” In this context, and as has been observed throughout 2024, The carry trade remains a key driver of dollar credit performance in emerging markets, offering a strong buffer against potential risks to the global economy.

Hence, Fortun notes that emerging market debt has been boosted by positive carry returns and remains an attractive option amid stable or easing monetary policy in emerging market economies.

Perspectives

As for the outlook, the IIF maintains that as emerging market flows trend toward a combination of cautious optimism in debt markets and fear in equities, continued divergence driven by the end of the year is likely to be seen. due to global monetary and geopolitical factors.

“The sustained attractiveness of emerging market debt highlights investors’ search for yield and the relative stability offered by high-carry assets, but equity flows are likely to face headwinds unless stability is restored in key markets, particularly China,” Fortune sentence.

It is worth remembering that, according to a recent recalculation, in September capital inflows into Europe and Latin America were US$5.2 billion and US$3.6 billion, respectively.