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Emerging markets hedge funds position for currency volatility

Date: Monday, February 25, 2013
Author: Emily Perryman, HedgeWeek

Emerging markets hedge funds posted strong gains to conclude 2012, which continued through early 2013, as stimulus measures in developed markets contributed to EM currency and equity market gains.

The HFRX Multi-Emerging Markets Index gained 13.1 per cent for 2012, including a gain of 4.8 per cent in 4Q, with contributions across each of the BRIC (Brazil, Russia, India, and China) economies.

Hedge fund capital invested in emerging markets increased by USD11.2bn during the fourth quarter of 2012 to a record of USD139bn, according to the latest HFR Emerging Markets Hedge Fund Industry Report published by HFR. Net capital inflows to emerging markets hedge funds exceeded USD3.0bn in 4Q12, the highest quarterly inflow since 1Q08.

Hedge fund performance was strong across hedge funds investing in BRIC economies, with the HFRX BRIC Index gaining 13.4 per cent for 2012. The strongest contribution to EM hedge fund performance was from India-focused hedge funds, with the volatile HFRX India Index gaining 27.6 per cent for the year, topping the gain of the Mumbai Sensex and occurring against a backdrop of moderating core inflation and positioning for accommodative policy responses.

The HFRX Brazil, China and MENA Indices gained 9.5, 9.4 and 8.6 per cent, respectively for 2012, with each above their respective regional equity markets. Brazil’s Banco Central signalled that Brazil will continue to defend itself from short-term capital flows, which have occurred as a direct result of developed market quantitative easing, while the Chinese central bank reaffirmed its commitment to prudent and stable growth policies, despite stimulus measures by Bank of Japan.

The HFRX Russia Index gained 6.6 per cent for 2012, underperforming the gain of Russian equities, but gained 4.0 per cent in January 2013; the Russian central bank adopted a tighter monetary policy in 2H12 as government moved from exchange rate targeting to inflation targeting. The HFRX Currency Index posted a modest gain of 3.0 per cent for 2012, but advanced over 6.0 per cent from July 2012 through January 2013, with gains in seven of the last eight months.

EM capital flows for 4Q were dominated by flows into Emerging Asia and hedge funds investing across Multiple EM regions, with these receiving USD1.3bn and USD1.5bn, respectively, while funds investing in Russia/Eastern Europe saw inflows of over USD200m. The number of hedge funds investing in Emerging Markets also reached a new record to conclude 2012, and now total over 1,100 funds. EM hedge funds are also increasingly focused on currency and commodity exposure, with macro hedge funds increasing to 14.4 per cent of EM hedge funds, up from 11.0 per cent as of year-end 2011.

“Currency volume and volatility increased sharply in 4Q12 in anticipation of, and in response to, Bank of Japan inflation targeting and stimulus measures, and these have continued as emerging market economies prepare for the impact that additional stimulus measures and competitive currency devaluation are likely to have in 2013,” says Kenneth J. Heinz, president of HFR. “Although macro hedge funds produced only limited gains in 2012, the environment has improved in recent months. Emerging markets and macro hedge funds are likely to experience significant opportunities in early 2013 as EM monetary authorities adjust to developed market stimulus efforts by utilising inflation targeting and various economic stabilisation measures.”