Capital flows to emerging markets will surpass $1 trillion for the first time in three years bolstered by net outflows to China and Latin America, according to a Washington think tank.
The Institute of International Finance (IIF) said non-resident capital flows to emerging markets would rise to US$1.1 trillion in 2017, edging up to US$1.2 trillion in 2018.
"With global growth broadly based and inflation still subdued, global risk appetite has been near post-crisis highs,” said Hung Tran, executive managing director at the IIF. “Moreover, growth is accelerating more quickly in emerging markets than in mature markets - typically a big pull factor for emerging market investors.
"Driving our upward revisions for 2017 are stronger-than-anticipated portfolio debt, equity and banking inflows. We see this continuing into next year."
The US1 trillion-dollar figure marks a solid recovery to 4 per cent of emerging market GDP from just 1.5 per cent of GDP in 2015 - though this is still well below the pre-crisis peak of 9 per cent of GDP.
Protectionism and onshoring
The IIF also noted that nearly all components that make up capital flows have risen, led by the doubling of portfolio debt inflows to $242 billion and "other investment" (mostly banking flows) to US$293 billion.
The exception to this trend was a fourth yearly decline in foreign direct investment flows, to US$467 billion, likely due to the lagged impact of falling commodity prices, protectionism and onshoring.
This remains a concern though since foreign direct investment has been a very stable component of otherwise volatile flows to emerging markets.
The IIF noted that one reason for this year's rebound has been a big drop in emerging market resident capital outflows, from over $1 trillion in 2016 to an estimated $770 billion this year.
This rebound was driven primarily by the large fall in resident capital outflows from China by more than half, to just under US$260 billion, the IIF said.
As a result, the capital flows analyst noted, net capital flows to emerging markets have swung from large net outflows in recent years to a small net inflow.
"While we remain broadly constructive on emerging markets fundamentals and valuation, flows to emerging markets will certainly face headwinds as the US Fed continues with monetary policy tightening," said Sonja Gibbs, senior director for global capital markets at the IIF.
"If global bond yields begin to rise more quickly than anticipated - sparked perhaps by higher-than-expected inflation - it could become a much more challenging backdrop, particularly for emerging market debt flows. Potential trade friction and geo-political strains also pose downside risks to our forecasts."