While a flight to quality characterised the response of investors to the previous financial crisis, the latest figures on capital flows reveal that the new risk-off landscape could involve a wider search for safe havens, following the recent market tumble.
A recent European Central Bank study using high frequency trading data has examined capital flows prior to the financial crisis, while the 2008 crisis unfolded, and in subsequent recovery.
Predictably, it found that at the height of the crisis, capital flowed into the US into typical safe havens such as US treasuries. But it also revealed that while capital flows surged back into emerging markets in the recovery of 2009 and 2010 it was heterogeneous across countries.
The report finds that common shocks around liquidity and risk conditions exerted a substantial effect on global capital flows.
“Compared to the pre-crisis period, the data shows remarkably strong divergences in capital flows across countries during the crisis, and more precisely a massive reallocation of capital from emerging market (and a few advanced economies) to the US,” the author of the report, Marcel Fratzscher, writes.
Fratzscher heads the International Policy Analysis Division of the ECB and his working paper uses data from capital flow information from EPFR Global.
The data set covered weekly flows and geographic allocations by more than 14,000 equity funds and more than 7,000 bond funds with more than $8 trillion under management.
But new capital flow figures from State Street Global Markets reveal something different might be happening during this most recent bout of market volatility.
Max Horgan (pictured), head of State Street’s forex trading for the Australia, says the latest capital flow numbers released at the start of the week show cross-border bond investors shunning US treasuries and moving into other ‘safe havens’.
“Places like Korea and Australia have, until recently, been pretty attractive. The pull factors which are good dynamics for a country, which may include good current account surpluses, or attractive yields have been key to investors,” he says.
“The flight to quality this time has been away from risky assets and the question has been ‘where does the capital flow to?’ In a nutshell it has flown to areas like Scandinavia and countries like Germany and Switzerland.”
It is a view backed by Pimco, which told investors at a recent briefing that it would focus on countries with good balance sheets and competitive economies.
State Street’s global bond statistics reveal that over the last 10 days cross-border sovereign bond flows into the US have fallen to bottom quartile levels in historical distribution data going back to 1995.
Under the percentile system State Street uses it ranks each flow relative to its history, the 10 day cross border flows into US bonds sits at 15.6 per cent. This means that there has been stronger flows 84.4 per cent of the time since Jan 2001.
The downward trend continued over the most recent five-day period dropping further to 10.6 per cent.
The light inflows into US bonds were contrasted by strong cross-border sovereign bond flows into British, Swedish and German bonds as well as Canadian and Australian bonds.
Investors shunned Italy (9.3 per cent) and Spain (3.7 per cent)
“The safe havens might have changed from the last crisis because investors are looking at this in a more country-specific way this time,” Horgan says.
Horgan says the data comes from analysis of flows from real money funds, where State Street holds about 17 per cent of global assets under custody.
Total flows, which include US domestic flows, are higher hovering between 50 and 60 per cent, demonstrating a fair amount of domestic repatriation by funds in the US, says Horgan.
In the wake of market volatility State Street figures indicate that cross-border investors have been avoiding equity markets, particularly emerging markets.
“Equity markets have been largely shunned as you would expect in a crisis,” says Horgan.
“Equities in general haven’t been attracting big flows but it is countries like Norway, Australia, Singapore and the United Kingdom that have picked up some flows.
Emerging market equities have been particularly avoided by risk averse investors, with near historical light flows to emerging markets over the past 60 days.
This was particularly apparent over the past 10-day and 20-day periods where inflows were in the lowest decile at just 7.4 per cent.
In emerging markets, Argentina and Chile bucked this trend, attracting strong investor interest relative to its historical levels of inflows.
Horgan says State Street’s tail-risk monitor, which it uses an early warning system for market downturns, has risen rapidly since early August, says Horgan.
The tail-risk monitor combines State Street’s systemic risk and turbulence monitoring and has over the last week moved into the riskier “warning” environment.
The ECB report finds that countries during the crisis, however, were not powerless to shield their economies from global economic shocks emanating from advanced economies.
The report finds that the reasons for the heterogeneous nature of capital flows for different countries could be found in the management of domestic economic issues.
