JP Morgan says it’s smart money that’s been selling EM assets

Activity was sparse, with Japan on holiday and many investors on an extended break. MSCI's broadest index of Asia-Pacific shares outside Japan was a fraction firmer after rising by one-third in value last year to heights last visited in 2007. Japan's Nikkei also had a bright 2017 with gains of 19 percent.

DUBAI: Stocks down for a third successive week, bond yields at their highest since 2016 and a currency market replete with bears.

Such have been the declines in emerging markets that the more sanguine commentators have begun saying the selloff has run its course and it may even be time to buy the dip.

But JPMorgan Chase & Co. says a careful analysis of who has been doing the selling shows the turbulence may have further to run. Until now, the bank says, it’s largely hedge funds that have been bailing out, while the so-called real money -- equity and bond fund managers -- has remained on the sidelines. 

Selling by individual, or retail, investors, has been generally muted too. So what if that were to change?

“EM assets look still vulnerable if real money investors decide to join hedge funds in reducing their exposure,” analysts including London-based Nikolaos Panigirtzoglou said in an emailed note May 4. 

“Effectively, the entire previous rise in the EM hedge fund beta seen between November last year and March this year has been unwound in recent weeks.”

It’s getting harder to justify the risk of holding emerging-market securities. An index of developing-nation exchange rates has fallen in every week but three since the end of January, and carry traders, who borrow in dollars and invest in local-currency assets, suffered losses on all but one of the 23 major emerging-market currencies over the past month.

Then there’s the MSCI EM Index of stocks, which fell below its 200-day moving average for the first time since January 2017, a sign to some analysts that the rout may endure.

The following are some more snippets from the JPMorgan report:

• The muted selling by retail investors may reflect the fact that their inflows into emerging-market funds were modest before April, so there wasn’t a big ramp up that needed to be unwound

• Alternatively, it could be a sign of the relatively low or average shares of emerging market in the equity or bond ETF universe, suggesting that retail investors aren’t overweight EM assets

• The share of EM in the bond ETF universe has been declining this year and stands at its lowest level since the beginning of 2017

• Note: To show exposure to EM, the beta of EM dedicated hedge funds are proxied by the HFRX EM Composite Index versus the JPM EM currency index - Bloomberg