Monday, 26 July 2010
The last decade has been very kind to investors that bought emerging market stocks.
The last decade has been very kind to investors that bought emerging market stocks, returning a “modest” 100% in some cases and an incredible 1000% in others. The S&P, in contrast, declined slightly over the same period. In some ways, 2009 was a microcosm for this trend, as the MSCI emerging markets index gained 73%, compared to 25% in the S&P. While investors are cautious about bubbles forming in some of these markets (bubbles seem to form and burst with alarming regularity), they continue to pour money in. $75 Billion was added to emerging market equity funds in 2009, to be precise. They are buoyed by predictions that emerging markets will account for the lion’s share of global GDP growth going forward.
This has facilitated a twist on the carry trade, whereby investors are now commonly using Dollar-funded loans to buy stocks, rather than sit back and earn a modest return investing in comparatively low-risk interest-bearing securities. This “traditional” carry trade is perhaps less popular now because interest rates are at all-time lows in many countries. But this is already starting to change as a healthy recovery in emerging markets has paved the way for rate hikes. While this could put a damper on stocks, it would re-open the bread and butter for carry traders, which is to sit back and earn a simple interest rate spread. Moreover, these carry traders can rest assured that if/when the Fed eventually raises rates, Central Banks in Asia and Latin America will almost certainly be in the same position.