It’s been interesting to see the investment flows in and out of the various regions over the course of the year. These flows of course reflect investors indicating where they see the best potential returns. See the chart below.
Regional investment flows
Source: Deutsche Bank
It appears that investors believed the U.S. market would struggle to repeat the strong returns of the past couple of years and switched their funds into Europe and Japan. The Emerging Markets – see the chart below – also suffered significant outflows.
.
Emerging Markets investment flows
Source: Deutsche Bank
Since the U.S. Fed announced it would be first winding back its quantitative easing and second raising interest rates, markets have presumed the tsunami of yield-seeking liquidity that washed over the world from the U.S. into places like the emerging markets would be sucked back home. The natural presumption was that EM stock markets would suffer.
There is, however, an alternative explanation: money flows have followed central bank quantitative easing. The blue line in the chart below plots the Federal Reserve’s balance sheet, showing the steady rise as it bought trillions of dollars’ worth of bonds as part of its QE scheme. The red line is the S&P500. Now the correlation is not perfect and there would be plenty of people who would argue the point, but it sure looks like there’s a relationship there. Is it any coincidence that the stock market flattened out once the Fed wound back its QE? Likewise, is there any coincidence that the money is following the two central banks that are still conducting aggressive QE operations: the European Central Bank and the Bank of Japan?
The Federal Reserve’s balance sheet vs. S&P500
Source: St Louis Fed
Like this article? view more in our News & Learning blog.
