Emerging Markets Mutual Fund in 401k portfolio

3 percent

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It seems to be an unstable investment right now

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You do realize that in a balanced portfolio with long views, this is actually preferred?

About 20% of mine is here, although that is a little on the heavy side.

10-15 is where you should be....in a portfolio that is rebalanced as needed.

We never put 20 percent in emerging markets for our clients. Way too much risk for that allocation percentage. Right now we are putting 3-8 percent

If you attempt to "follow trends" you will likely end up losing money.

Pick an allocation, and stick with it.

Only make major moves when you approach retirement and you go conservative.

I've yet to find a target date whose format I liked.


Closest is Vanguards though, and it does make up part of my 401k portfolio (~30%)

(FWIW, the rest is

5% bonds
15% LC Value
25% L and Mid Growth
20% EM
5% Developed Euro/Pac)

Thanks for the replies everyone. I will stick with the 10%.

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Can someone explain in layman's terms how the recent actions of the Fed have had a negative effect on the value of foreign currencies? I'm trying to educate myself on this, but all the articles I'm reading on it aren't really connecting the dots, or if they are they're going over my head.

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OK, so this is the background context with emerging markets:

They've had some boom years before the crisis of commodity related exports, then huge capital inflows from investors post crisis since since developing market interest rates were so low.

The issue is none of these countries, outside of Mexico, actually made serious structural reforms to balance their economy away from volatile commodity driven exports. It's like what the Dutch did in the 60's and what Australia did in the 90's-00's, went all in on commodities rather than diversifying with labor reforms, domestic manufacturing, etc..

So when interest rates in developed countries started rising as the Fed pulled back QE, investors have been yanking capital from emerging markets, which they have been using to roll over their debt which is usually fairly short-term for EM. Also, the slowdown in Chinese commodity demand has hit the export side very hard as most of these countries have high current account/GDP ratios.

So what you're seeing is the countries that are most affected by this pull back are 1) those with high current account (exports-imports) ratios to GDP, which means their economy is very dependent (aka fragile) on exports. 2) Those with low FX reserves to short-term debt. This is more what the Fed's actions have affected, since EM has been swimming in liquidity and capital inflows for the past 5 years, they've had no problem rolling their debt. Now with capital flowing out because of rising rates in developed economies, countries with low FX reserves to defend their currency and internally roll their debt via a central bank or large players, are more susceptible to big spikes in borrowing costs or even the inability to lower their debt.

If you looked at a chart with current account/GDP on the Y-axis and FX reserves/Short-term debt on the X (ZH did this chart a few days ago), the ones at the most extreme point in that chart are Turkey and South Africa, which have been the two countries most gutted by this sell-off.

Hopefully that helps but please feel free to ask for color on any of the above.

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Would emerging markets be BRICs investments?

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Yes, they fall under that category. Not necessarily by the World Bank (Russia isn't included) definition but they absolutely have the trading and liquidity characteristics emerging markets.

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So when interest rates in developed countries started rising as the Fed pulled back QE, investors have been yanking capital from emerging markets

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Why are they taking the capital out of the EMs? Is it because they can find safer growth in developed economies?

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Why are they taking the capital out of the EMs? Is it because they can find safer growth in developed economies?

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Several reasons, I'll try to go in order of complication.

First, from just a basic economics perspective investors will invest in countries with higher interest rates. The basic idea of a carry trade is to borrow in countries with low interest rates to invest in countries with high interest rates, ignoring all the FX arbitrage factors.

From an FX side, when capital flows out of a country their currency will depreciate. Because when you invest in a country you have to buy that country's currency, hence appreciating that currency. The opposite occurs when capital moves out of a country as you sell that currency to buy others. When an emerging markets currency is depreciating, your investment in that country will be lower.

From an "hot money" perspective, you can get massive inflation if your country gets a large amounts of inflows, asset prices will be inflated as this money will buy things in the country (similar to what happened in Brazil in '09-'11). This could also cause a country's currency to appreciate dramatically and hurt the country's competitiveness. On the flip side, if your country receives from a large amount of outflows where asset prices fall dramatically and the currency depreciates so heavily that the debt you issue outside of your own currency becomes nearly impossible to pay (similar to what happened with the 1997 Asian financial crisis).

From a central bank perspective, keeping this in mind they want to make sure that the latter scenario with hot money outflows doesn't happen. So as we've seen this past week, these countries' central banks are raising rates to defend their currency from depreciation, with central banks that have credibility being more successful with those that do not. The flip side of this is that bond holders will experience mark to market losses as bond prices move inversely with interest rates, so they'll want to move out before this happens.

So, to finally answer your question WHY capital is flowing out. Investors have repriced the expected growth lower for emerging markets. That was the original starting point, then for all the reasons that I named above that can speed up this downward spiral investors have continued to pull out cash. There are also a bunch of leverage issues with investors that have invested in EM by borrowing in developed market currencies, which will speed up the outflows even more. I won't get too much into that as the above kind of goes too much on a tangent.