The combination of earlier than expected tightening by China reflected in bill rate increases and reserve requirement increases (and in India as well), coupled with the growing anxiety over sovereign credits in Europe has encouraged risk reduction and this is evident in flows into emerging market equity funds. In the week ending Feb 3, EPFR Global reports that $1.6 bln flowed out of emerging market equity funds, the most in nearly six months.

Ironically, during that same week the MSCI emerging market index rose about 2.25%. However, in the two days since--that is yesterday and thus far today-- the index has lost 5.4% and now is at its lowest level since early last September. This would seem to suggest that further liquidation probably lies ahead, which is generally dollar positive. Of note, funds that invest in China saw net outflows for the fifth time in six weeks, while funds that invest in Indian saw the biggest outflow in about 5 quarters. The outflows from the emerging equity markets are serving to help weaken the respective currencies and remove the "need" to intervene. As we have pointed out, after marching steadily higher last year, the custody holdings at the Federal Reserve for foreign central banks steadied in recent weeks (this year up twice and down thrice). A related but different development this year has been the more than 10% slide in commodity prices, with the CRB Index near four month lows. The late 2009 run-up in commodities, including oil and gold, have been unwound in full. This is a negative for many emerging market equities, but it also means that the commodity-push increase in some measures of inflation (see today's UK PPI for example) may prove transitory.
China China Reviewed by magonomics on February 05, 2010 Rating: 5
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