How have emerging markets performed relative to developed markets after the demise of Lehman Brothers Holdings Inc.? Hari Hariharan, chairman and chief executive of hedge fund NWI Management Lp, made some interesting observations in this regard at a recent research programme on capital flows hosted by the National Institute of Public Finance and Policy and the ministry of finance. NWI has $2 billion (Rs9,120 crore) under management and includes a global macro fund, an emerging market fixed income fund and a special credit situations fund.

In the credit markets, emerging markets more or less mirrored the performance of developed markets for over a year after the Lehman collapse. There was panic soon after the demise of Lehman, but almost all markets rallied sharply from March 2009. According to Hariharan, things have begun to change since news of the Greece debt crisis.

Spreads on credit default swaps of developed markets have widened since concerns about the debt crisis in southern Europe have emerged. At the same time the spread between US treasuries and JPMorgan’s benchmark Emerging Markets Bond Index Plus (EMBI+) fell to a 20-month low last week.

Graphic: Yogesh Kumar/Mint

Hariharan pointed out that while developed markets had relatively large debt levels, emerging markets were far less leveraged. Even in terms of fiscal deficit, emerging markets scored much better compared with developed markets such as the US where the deficit is around 10% of gross domestic product. Besides, growth rates in emerging markets are far superior. Given these broad characteristics, the hedge fund manager says the decoupling of these two sets of markets should continue.

Interestingly, the divergence seen in the credit markets isn’t as starkly visible in the equities markets. MSCI’s world index, which represents developed markets, has risen by 1.3% since 1 December, around the time the Greece debt crisis surfaced. MSCI’s Emerging Markets Index has risen by 2% during the same period.

One reason for the lack of divergence could be the outperformance of emerging markets prior to that. One-year returns of emerging markets stand at 92.4%, substantially higher than the 59.3% returned by developed markets.

Also, there’s some bit of divergence in some regions. Among developed markets, for instance, the euro region index has dropped by 7.5% since December, while North America and the Pacific have risen by 4% each. In terms of one-year returns, the MSCI India Index is one of the top performers with a return of 148% in dollar terms.

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