Since the start of 2011 the correlation between the Indian markets and the US dollar index, which has historically been negative, has turned to a positive 10%. The dollar index (futures traded on the Intercontinental Exchange) is a gauge of the greenback’s strength against a basket of six major currencies including the Euro, GBP and Japanese Yen.
The reason EMs underperformed was a change in investors’ preference who moved money to DMs anticipating that growth, in these economies, especially the US would pick up sharply whereas the growth momentum in the emerging economies could begin to taper off in the wake of high inflation and rising interest rates.
With money moving out to DMs in the last few months of 2011, EMs, by and large, have been underperformers over that period. According to EPFR data emerging market equity funds saw an outflow of $26 billion for the three months ending March 2011. So far in 2011, the MSCI Emerging Market index has gained 2% against a 4.5% gain in the MSCI world (developed market) index. The MSCI India index has declined by 5% between January 1, 2011 and April 15, 2011.
Consequently, since start of 2011 the negative correlation between the dollar index and the Dow Jones industrial average, the Nifty’s US peer, has strengthened to 65% from its historic value of 40%.
Generally a negative correlation between two variables indicates that an increase in one variable is accompanied by a simultaneous decrease in the other, with a higher correlation number depicting the strength of the negative correlation. The US dollar has maintained its status of a safe haven currency and remains the most dependable currency. It is therefore, used to compare the performance of leading asset classes, including the equity markets, not only in terms of returns but also in terms of their attractiveness for global fund flows.
Meanwhile, the negative correlation between the dollar index and commodities like crude oil and silver has strengthened. Both these commodities have seen unprecedented rise in 2011 and have given year to date returns of 37% and 29%respectively. As a result, their negative correlation with the dollar index in 2011 has increased to 90% and 84% in 2011, rising from their historic value of 81% and 71%.
