Developed market equity investors are clamoring for a piece of the emerging markets (EM) as the asset class surpasses that of developed markets.
- EM ETFs saw $9.6 billion of inflows in March, the most in three years; the trend continued in April.
- The largest EM ETF has delivered 6% returns YTD, twice that of the S&P 500 index.
- China bucks the trend, as European and North American investors have cashed out $715 million of exposure.
Emerging market equities have been the surprise story of the year to date, which has seen investors in developed markets clamor for a piece of the action as ETFs that invest in the asset class experienced their largest monthly inflow in over three years. In March, investors piled over $9 billon of new assets in these funds. This appetite for emerging markets has continued into the second quarter, as $2.7 billion of new assets has flowed into emerging market ETFs in April so far.
The asset class looked forlorn at the beginning of the year as the market fretted about more interest rate hikes from the U.S. Fed, a cooling China and sliding commodity prices. These fears were evidenced by the outflows seen in the opening two months of the year, when the same group of funds saw $4.5 billion of redemptions as emerging markets slipped to new multi-year lows.
While these factors still linger, a rebound in commodities prices and hopes that the Fed will take a more dovish path in the medium term have seen the largest emerging market ETF regain all the ground lost in the opening weeks of the year. In fact, the largest emerging market ETF, the Vanguard FTSE Emerging Markets ETF (NYSEARCA:VWO), has delivered twice the returns seen in large-cap U.S. equities as tracked by the S&P 500.
Economic reality is starting to catch up with the recent market rebound, as the March release of the Markit Emerging Markets PMI index indicated that output in emerging market economies grew at the strongest pace in ten months.
Investors prefer broad-based
The strong inflows year to date, over $7 billion, have been largely driven by investors piling into funds which invest across more than one emerging market country, such as the previously mentioned Vanguard FTSE Emerging Markets ETF (VWO) and its peer, the iShares MSCI Emerging Markets ETF (NYSEARCA:EEM). With global volatility and political instability still an issue on a country level, it appears that investors have been choosing the broad-brush approach when tackling the asset class.
Country-focused funds have seen less than $1 billion of net inflows, which severely under-reports the asset flow in the asset class. The absolute fund flows across the 282 emerging market country-focused equity funds and has seen over $6 billion of gross fund flows in the opening four months of the year.
Brazil has been the most popular country so far this year, as investors bought $629 million of exposure to the country. Indonesian, Mexican and Malaysian funds have also proved popular among investors seeking single-country exposure.
China has been the largest loser out of the trend, as developed market investors cashed out over $521 million of exposure from the country. If anything, the exodus out of China has been downplayed given that inflows into listed Hong Kong funds with exposure to mainland China have balanced out large outflows seen by U.S. and European listed funds which track the Chinese market.