Foreign investors pulled a net $26.3 billion out of emerging-market stocks and bonds in September, marking the first monthly outflow since June, according to data from the Institute of International Finance (IIF). The selling was driven by two forces: a hawkish turn from the US Federal Reserve that lifted Treasury yields and the dollar, and a cooling of the artificial-intelligence trade that had fueled a big rally in Asian tech stocks earlier this year.
The IIF, a global association of financial institutions, said $19.2 billion left emerging-market equities and $7 billion exited bond funds, snapping a run of net inflows into fixed income. The outflows accelerated late in the month after the Fed raised interest rates for the first time since 2023 and signaled that inflation remains a concern. Reuters reported that the move pushed Treasury yields higher, strengthened the dollar, and reduced appetite for riskier assets.
Why a hawkish Fed hits emerging markets
Emerging-market governments and companies often borrow in US dollars, so when American interest rates rise, their baseline funding costs go up. A stronger dollar also makes dollar-denominated debt more expensive to service in local currency terms. But the pain doesn't stop there. When investors pull money from bond funds, fund managers often have to sell quickly to meet redemptions, which can pressure prices and push yields higher.
The IIF noted that around the Fed meeting, hard-currency bond funds swung to outflows and “EM dollar credit spreads” widened. A credit spread is the extra interest a borrower pays above a US Treasury of similar maturity. It compensates investors for the additional risk of lending to an emerging-market entity. When spreads widen, it signals that investors are demanding more compensation for that risk.
For an ordinary investor, think of a dollar bond yield as a two-part bill: the US Treasury yield (the base rate) plus the credit spread (the extra compensation). A hawkish Fed can raise both at once—lifting Treasuries directly and, via fund outflows and forced selling, pushing spreads wider. The result is higher all-in borrowing costs for emerging-market sovereigns and companies that rely on dollar debt, which can make refinancing harder and set a higher hurdle for “carry” trades—strategies that try to earn the gap between a higher-yielding asset and cheaper funding—going into the fourth quarter.
The AI trade cools in Asia
Equities had a separate catalyst. Heavy foreign selling of South Korean stocks did much of the heavy lifting, according to the IIF. South Korean shares had surged earlier in the year, partly on enthusiasm for companies tied to artificial intelligence, such as chipmakers. When that trade cooled, investors took profits, and the selling was amplified by the broader risk-off mood.
This is a reminder that emerging-market equities are not a monolith. While some markets may be more exposed to the AI trade, others are more sensitive to commodity prices or local politics. The September outflows were broad, but the South Korean sell-off was a standout.
What it means for your portfolio
For everyday investors, the takeaway is that emerging-market assets are sensitive to US monetary policy. When the Fed turns hawkish, it can trigger outflows from these markets, pushing down prices and raising borrowing costs for the countries and companies involved. This can affect your mutual funds or ETFs that hold emerging-market bonds or stocks, even if you don't directly buy foreign securities.
It's also worth noting that the Fed's move is part of a broader trend. As we've seen, wealthy investors see high rates as a top threat to growth, and that sentiment can ripple through global markets. The divergence among central banks adds another layer of complexity, as some countries are cutting rates while the Fed holds or hikes.
For those with exposure to emerging-market debt, the widening of credit spreads is a key indicator to watch. It can signal stress in the system, but it also means that yields on new bonds are higher, which could be attractive for long-term investors willing to take on the risk. However, it's important to remember that higher yields come with higher risk, and the forced selling that widens spreads can also create opportunities for patient buyers.
As we head into the fourth quarter, the path of US interest rates and the durability of the AI trade will be critical for emerging markets. If the Fed stays hawkish and the AI rally continues to fade, further outflows are possible. But if inflation cools and the Fed pivots, the tide could turn quickly.
For now, the message is clear: in a world of higher US rates and a stronger dollar, emerging-market assets face headwinds. Investors should be aware of the risks and consider how these dynamics might affect their portfolios.
