Pretty much every equity market in the world fell last week but emerging markets have been hit especially hard. The iShares MSCI Emerging Markets Index Fund (EEM), which closed above $111 as recently as May 9th, closed today just above $94, a fall of 15%. The recent drops also illustrate how volatile these markets can be.
The Bombay Stock Exchange (BSE) Sensitive Index comprised of 30 blue-chip Indian equities had been on a tear reaching a historic high of 12,612 on May 10. The market then fell slightly for a few days before dropping a stunning 826 points or 6.7% on a single day on May 18. The carnage is not over yet. The index slipped another 450 points on May 19 and plummeted another 1,111 points on Monday before recovering to close the day down a mere 457 points at 10,481. That works out to a loss of 17% in a matter of weeks. The Globe and Mail is reporting that there is so much panic that Indian “police are closely monitoring lakes and canals because of concerns that the market rout could lead to suicides”.
While emerging markets have a place in every portfolio, the past few weeks illustrate the risks of over-weighting this asset class. The extreme volatility is just the start. Investors also need to consider the currency risks (most emerging market currencies are below investment grade), political risks (wars or political instability), regulatory risks (property rights may not be well established) and liquidity risks (relatively small flows of money can move market significantly).