UBS Sees A Trickle Not A Torrent

A trickle, not a torrent

Year-to-date equity flows modestly negative; no ‘capital flight’
. Data from various sources suggests that inflows to Asia have slowed, but we are by no means seeing ‘capital flight’ from the region. Outflows over the past 4 weeks look to be small and nothing out of the ordinary versus history in Asia ex Japan.

Denise Keller


Outflow from Asia/EM funding the DM outperformance?

A more important question is whether the outflow could accelerate if developed

markets (DM) continue to outperform. Looking at the data since 1990, it is rare
that Asia would see outflow whilst DM see inflows except during financial crises
and global bear markets. We are not expecting a reversal of last year’s flows.

India flow not as extreme as it appears; Indonesia back to Sep 2010
. Adjusted for market performance, inflow into Indian equities in 2010 was the highest amongst Asian markets at ~10% of market cap, which would imply the greatest vulnerability to a reversal. That said, the inflow was in line with history and reversals tend to be modest and short-lived in India ex-the financial crisis. Foreigner stockholdings in Indonesia are now almost back to the pre-Q4 2010: from a flow perspective the market appears to have adjusted the most.

Strong inflow into Korea/Taiwan unlikely to continue

Whilst flows into India and Indonesia have been weak over the past 3 months, they have been strong in Korea and picked up significantly in Taiwan, which have been reflected in the relative performance. Flows to neither market (KR/TW) look
extreme; however, it would be unusual for them to continue in the current pace.

The recent underperformance of Asia ex Japan equities versus developed markets, on the back of strong G7 economic data and ongoing inflation concerns in Asia, are leading to many questions (and fears) about a sustained reversal of fund flows into this region, and in turn, further underperformance from Asian equities.

Denise Keller


While flows are starting to reverse on some measures, we are not seeing
calamitous selling. More importantly, we also find historically that when the US
outperforms Asia in a rising market, there is little evidence of investors selling
Asian funds to ‘get overweight’ developed markets. More often, flows to Asia just slow down. In other words, fears that the recent outperformance of the US versus Asia will lead to a substantial reversal of flows in our view seem overplayed.

At the country level, India’s flows, at 10% of market cap during 2010, were the
highest. If there is a foreign capital flight, this market looks most vulnerable. The good news is that, historically, equity portfolio outflows have tended to be moderate and shortlived affairs in India, with the exception of the global financial crisis. In other words, strong inflows do not usually reverse. Taiwan’s flows, very strong in the last quarter of the year, look unlikely in our opinion to repeat themselves. We see no positive or negative in Korea’s flow data, which has been steady and unspectacular for most of the last year, i.e. not vulnerable in our opinion. Finally, the froth in inflows in September/October last year into Indonesia has entirely reversed. From a flow perspective the Indonesian data
looks most interesting.

Regional flows – modest outflows

In recent weeks, flows have turned negative from Asia ex Japan. We look at this
in two ways. In Chart 1 we show data from Emerging Portfolio Fund Research (EPFR) – an aggregator of mainly retail flows. This shows data into Asia ex Japan funds (and ETFs) over the last few years, and we deflate it by market cap.

Because the individual week to week data can be quite jumpy, we take a four
week moving average of the data. As the chart shows, in recent weeks, the flows
have started to turn negative. But very modestly so. Clearly there has been a
moderation in the momentum but by no means is capital ‘fleeing’ Asian equities.

We see the same pattern from the individual stock market data of net purchases
of Asia equities by foreigners. This data is only available for India, Indonesia,
the Philippines, Korea, Taiwan and Thailand. The general trend is similar. As
we show in Chart 2, foreigner net purchases tapered off towards the end of 2010,
but we are not seeing significant outflows from the region.

The first point is that flows are very modestly negative, but there is not, as yet,

panic selling or calamitous outflows. One of the questions we have encountered
in recent weeks surrounds the fear that we are on the brink of major outflows –
that investors could turn major sellers of Asian equities to fund inflows to
developed markets, given their recent outperformance, better G7 economic data
and inflations fears here in Asia.

Looking back at US mutual fund data back to 1990, we see no evidence that this

actually happens when Asia underperforms the US, with the notable exceptions
of bear markets. In other words, if Asia keeps underperforming US equities, in a
rising market environment (or at least one that is not a global bear market), it is not unreasonable to see US flows being positive, but Asian flows also positive.

In Chart 3, we show the 3 episodes since 1990 when EM flows are negative

whilst DM flows are positive – two of them are during global bear markets
whilst the other one relates to the Asian financial crisis. For sure, there is an asset allocation shift at the margin away from Asia to developed markets that has mirrored the recent outperformance of developed markets. But flows don’t tend to fully reverse and turn negative unless we are in a major bear market. More likely, what seems to be driving the US and other developed markets up, is
an asset allocation shift away from fixed income to developed equities – as the
data suggests.

Denise Keller


Strategy summary

While flows are starting to reverse on some measures, we are not seeing
calamitous selling. More importantly, we also find historically that when the US
outperforms Asia in a rising market, there is little evidence of investors selling
Asian funds to ‘get overweight’ developed markets. More often, flows to Asia
just slow down. In other words fears that the recent outperformance of the US
versus Asia will lead to a substantial reversal of flows seem over played.

At the country level, India’s flows, at 10% of market cap in 2010, were the highest. If there is foreign capital flight, this market looks the most vulnerable.
The good news is that historically, equity portfolio outflows have tended to be
moderate and short-lived affairs in India, with the exception of the global
financial crisis. In other words, strong inflows do not usually reverse. Taiwan’s
flows, very strong in the last quarter of the year, look unlikely in our opinion to repeat themselves. We see no positive or negative in Korea’s flow data, which
has been steady and unspectacular for most of the last year, i.e. not vulnerable in our opinion. Finally, the froth in inflows in September/October last year into
Indonesia has entirely reversed. From a flow perspective the Indonesian data
looks most interesting (on the positive side).

Denise Lorraine Keller

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