Emerging market funds suffer biggest outflow in 7 years,Chinese equities hardest hit as investors withdraw $7.1bn in 4 days

In total, $9.3bn left EM funds in the week to Thursday, according to data from funds tracker EPFR, the most since 2008. Of that, $7.1bn came from Chinese equity funds, which had previously seen three weeks of robust inflows including a record $4.6bn in the last week of May. Global EM funds saw $829m of withdrawals, while Latin America funds lost $442m.

Emerging markets have come under increasing pressure recently as the US dollar has strengthened — something that has often led to the underperformance of EM assets. In the past month, the Russian rouble has dropped 8.6 per cent against the dollar, the Colombian peso is down 5.9 per cent and the Malaysian ringgit is off 3.2 per cent.

Bonds in particular have been hit, as rising yields on German government debt and improving economic data in the US have prompted a rethink about exposure to lower-rated credit.

“The rates markets are more worried about whether higher US dollar and euro bond yields could prompt a reallocation of assets to developed markets, and thus capital flows out of EM,” said analysts at Société Générale in a note.

Many developing nations are also in the midst of an economic slowdown, as Chinese demand for raw materials wanes and domestic credit booms grind to a halt.

Earlier this week, the World Bank warned that emerging economies face a “structural slowdown” likely to last for years, just as activity in the west begins to pick up in earnest.

China’s equity market — the main source of outflows this week — presents a different set of concerns. Despite a slowdown in the economy, the Shanghai and Shenzhen stock indices have both more than doubled in the past 12 months, making them by far the best performing markets in the world.

However, the rally has been characterised by the opening of millions of new retail trading accounts, soaring share turnover and rapidly increasing margin debt. All this has raised fears of a policy-induced bubble.

The Shanghai Composite now trades at 25.7 times current earnings, up from just 9.7 times a year ago. Mainland listings are now typically 38 per cent more expensive than their Hong Kong counterparts, a sign of a growing disconnect between onshore and offshore markets.

“All people see is a bubble — and they have been stuck on this theme like an old-fashioned record for years,” said Markus Rosgen, Asia equity strategist at Citi. “If you don’t own it, it is a bubble. If you own it, you are in a bull market.”

This week, index provider MSCI chose not to add mainland-listed Chinese stocks to its global emerging market index, citing lingering access issues. Had it decided to press ahead with inclusion, billions of dollars of passive fund money would have been forced to buy Chinese shares.

Analysts at ANZ said this week’s outflow from China funds was probably due to increased volatility in the domestic share markets, but that the MSCI decision may also have been a factor.