Emerging markets risk tipping into a ‘negative feedback loop’ — chart

August 28, 2013, 6:00 AM

Bank of America Merrill Lynch called it a “self-reinforcing cycle“. Nomura called it a “negative feedback loop”. The Wall Street Journal’s Francesco Guerrera called it a “painful recoupling“.

Whatever the terminology, fears are growing that the rising U.S. interest rates that struck a blow to emerging markets could come full circle to land a retaliatory punch on the developed world. Global capital flows are responding to the ripples set off by the Federal Reserve’s indication it could slow its pace of bond-buys. As investors bring their emerging-markets investments back stateside, the bonds and currencies for those countries are weakening, particularly for those with large current-account deficits.

As their central banks intervene, that could accelerate the pace of Treasury sales, in effect restarting the sell-off cycle in the U.S. government debt market. Foreign selling of Treasurys was mostly limited to private investors in June, rather than central banks, Treasury International Capital data showed, but that could change.

This graphic, created by MarketWatch’s Terrence Horan, visualizes how analysts see the yield spiral playing out: