Securities lending is one factor that is most likely to drive foreign portfolio investment towards emerging markets, according to a report published by the World Federation of Exchanges.
It also found the presence of market structure enhancements, such as the implementation of a colocation facility and borrowing ability, and/or a central counterparty also attracts international portfolio investment into emerging market equities.
The report, entitled, ‘What attracts international investors to emerging markets?’ explained how, since the mid-1990s, net international portfolio equity inflows into emerging markets have grown dramatically, totalling over $955 billion over the 2000 to 2017 period.
“The introduction of market structure enhancements, namely the ability to short-sell, and engage in securities lending and borrowing, [is one factor] associated with increased trading activity”, the federation also found.
It said: “International investors are important for the growth and development of emerging market exchanges (and by extension, the surrounding economies).”
“They provide additional capital to that which is locally available, serve to enhance liquidity, and promote greater competitiveness and adherence to standards of corporate conduct in the companies they invest in.”
The federation collected monthly foreign buy and sell trade data (volume and value) from 20 emerging market exchanges for the January 2006 to April 2018 period.
It used this data to build an econometric model that assessed the influence of a range of indicators on both investment inflows and outflows (the difference between buys and sells) and trading activity overall.
It said the greatest predictor of foreign inflows into emerging markets is emerging market equity returns, as well as at the emerging market level overall.
The federation found corporate governance standards are also relevant for explaining inflows, with markets with higher corporate governance standards attracting more investment.
In addition, factors such as market capitalisation or market liquidity did not seem to be related to investment inflows, the federation said.
