Portfolio Capital Flows to Emerging Markets Took a Hit in February

Emerging markets (EM) is one area of the capital markets that can’t wait for coronavirus concerns to go away. Around the globe, it’s affecting capital allocations into EM assets, which took a hit during the month of February.

The National article noted that “emerging markets securities declined significantly in February as the spread of the coronavirus shakes financial markets and fears of a global recession rise. Emerging markets securities – both debt and equity – attracted only $3.4 billion (Dh12.48bn) last month, a sharp drop from $29.5bn recorded in January, the Institute of International Finance said in its latest report.”

“This is largely a result of the dramatic collapse of flows in the last one-and-a-half weeks when the increasing spread of the coronavirus rattled global financial markets,” IIF economists Jonathan Fortun and Benjamin Hilgenstock wrote in the report. “Effects are noticeable both on the debt and equities sides of non-resident portfolio flows.”

The second-largest economy is no doubt feeling the pangs of coronavirus effects and that extends to their equities market. The National article said flows to China essentially came to a screeching halt as “$9.8bn was pulled from emerging market equities, following on from the $6.8bn withdrawn in January. The level of outflows from emerging markets over the past two months are equivalent to the “trade tantrum” episodes over the past two years when US-China trade tensions affected equity dynamics, the institute said.”

^MSEM Chart

^MSEM data by YCharts

However, this does set up a relative value trade in the Direxion MSCI Developed Over Emerging Markets ETF (NYSEArca: RWDE). RWDE provides a means to not only see developed markets perform well, but a way to access a convergence/catch-up in performance of DM relative to EM, a spread that has clearly widened over the past 6 months.

The fund seeks investment results, before fees and expenses, that track the MSCI EAFE IMI – Emerging Markets IMI 150/50 Return Spread Index, which measures the performance of a portfolio that has 150% long exposure to the MSCI EAFE IMI Index (the “Long Component”) and 50% short exposure to the MSCI Emerging Markets IMI Index (the “Short Component”). On a monthly basis, the Index will rebalance such that the weight of the Long Component is equal to 150% and the weight of the Short Component is equal to 50% of the Index value.

In tracking the Index, RWDE seeks to provide a vehicle for investors looking to efficiently express a developed over emerging investment view by overweighting exposure to the Long Component and shorting exposure to the Short Component.

For more relative market trends, visit our Relative Value Channel.