Hedge funds show renewed interest in emerging markets

London is home to 80 percent of the EU’s hedge funds

The potential risks associated with investing in emerging markets, including differences in liquidity and distributions, an increased likelihood of corporate bankruptcies, and dependence on fickle currency exchange rates, have been well documented. Further, while stocks in the emerging market (EM) sector hit a peak in the fall of 2014, the MSCI Emerging Markets Index has dipped significantly since then, reaching a low point in January of 2016. However, recent months have brought changes to the sector, and hedge funds are now investing heavily in emerging markets around the globe.

Emerging markets are looking up

Over the past several years, poor returns in emerging markets have stood in contrast with gains in developed markets, prompting investors to look elsewhere. However, since January of 2016, the MSCI index has climbed by over 25%. Equities in emerging markets have made significant gains in recent months as well. Previous investor concerns about low prices on commodities, global political upheaval, and the stability of the Chinese economy seem to have dissipated, and hedge funds are pouring cash into EM as a result.

Several factors may have contributed to the EM upswing and may also point to continued growth over the long term. EM currencies have benefitted from the fact that the US. Federal Reserve has kept interest rates low following the United Kingdom’s Brexit vote. The Chinese economy, which dwarfs many of its fellow EM economies, has seen an increase in consumer spending and a recent boost in GDP. More broadly, EM economies have maintained a higher rate of growth than those of developed countries in the past year, and rejuvenation in recessed nations including Brazil points to a continuation of this trend. Additionally, prices of commodities show signs of continuing to push higher.

Hedge funds show increased EM interest

Hedge fund managers have noted the signs of promise in the EM sector and have shown renewed interest in investing in emerging markets around the world. According to a report from the Institute of International Finance presented in the Wall Street Journal, investors have dedicated $67 billion to a group of 30 emerging markets. Especially noteworthy is that much of these investments were made in Pakistan, which had until recently been classified as a frontier market following the closure of the Karachi Stock Exchange in 2008. With Karachi not only open and running once again but showing dramatic gains in 2016, MSCI reclassified it as a more stable emerging market in 2016.

Should the EM sector continue to prove profitable, hedge funds will likely appreciate the help in boosting returns, which have been difficult to achieve in the past several years. For now, it is likely that fund managers will be somewhat cautious.

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