Rout in emerging markets may only be in Phase One

Fri Jan 24, 2014 9:06am EST
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By Natsuko Waki

LONDON (Reuters) - The flight of investors from the once-booming emerging markets they previously favored with $7 trillion-worth of inflows may have only just begun.

It is mainly retail investors who have packed their bags and moved on to date. If and when big institutional firms join in, there is a risk of wholesale capital flight.

Signs of China slowing down and the global impact of a wind-down in U.S. monetary stimulus - effectively draining money from the system - have been particularly punishing in emerging economies dependent on external financing.

Currencies in Turkey, Argentina and Russia have hit record lows, for example, lifting safe-haven yen, Swiss francs and U.S. Treasuries in a sign of global contagion.

Such moves are crucial factors for foreign investors because exchange rate losses can easily wipe out any gains in stocks bonds in the high-yielding emerging world.

However, data on capital flows shows many long-term investors have either stuck with, or even added to, their emerging holdings. The outflows of over $50 billion seen since 2013 have largely been driven by retail investors.

But fears are that at some point the big investors will be forced to cut losses and run as the effect of falling currencies becomes too painful to bear.

"Every emerging market crisis is first-and-foremost a currency crisis," said Mike Howell, managing director of London-based CrossBorder Capital.   Continued...

A general view of the central business district during autumn in Beijing September 14, 2013. REUTERS/Petar Kujundzic