Soaring US Treasury yields impact emerging markets, with bond ETFs experiencing their biggest weekly outflow in six months.

The rise in U.S. Treasury yields to near 20-year highs, volatile oil prices, and continued uncertainty in the Strait of Hormuz have pushed emerging market bonds to their worst monthly performance since the start of the Iran-Iraq War, making a capital outflow unlikely to reverse in the short term.

On Monday, emerging market stocks and currencies continued their recent sell-off. The MSCI Emerging Markets Index fell 1.1% due to a broad-based surge in borrowing costs, with almost all developing country currencies weakening against the US dollar, significantly suppressing market risk appetite.

The outflow of funds from the bond market was particularly severe. Last week, the BlackRock iShares JPMorgan Emerging Markets Dollar Bond ETF, with assets under management of $13 billion, recorded an outflow of $610 million, the largest weekly outflow since March, and the fastest pace of capital withdrawal in six months.

Market sentiment remains fragile as uncertainty surrounding the reopening of the Strait of Hormuz has triggered sharp fluctuations in oil prices. Despite reports that Trump might be willing to offer sanctions waivers and release frozen funds to Iran in exchange for progress on its nuclear program, causing oil prices to fall from nearly $110 to around $105 per barrel, the broad-based pressure on emerging market assets under the dual pressures of high interest rates and high oil prices has not subsided.

Rising yields exacerbate capital outflows

The continued sell-off in the U.S. Treasury market is the core driver behind this emerging market turmoil.

Boosted by data released last Wednesday showing that U.S. business activity expanded at its fastest pace in more than five years, long-term U.S. Treasury yields approached multi-year highs. The 10-year Treasury yield broke through 5.20%, reaching a near 20-year high, while the 30-year Treasury yield also climbed to its highest level since 2004 last Thursday.

William Castro Alves, chief strategist and partner at Brazilian investment firm Avenue, said rising U.S. borrowing costs are “driving yields across the board higher,” while rising oil prices and renewed inflation concerns are also putting pressure on the asset class.

Baird Strategas' chief ETF strategist, Todd Sohn, added that with the combination of high interest rates and high oil prices, the market has essentially entered a risk-averse mode, and emerging market debt is not a good asset allocation choice in this environment. Capital outflows are expected to continue.

According to Bloomberg data, the Bloomberg Emerging Markets Hard Currency Aggregate Index fell by about 2.1% in September.

The fundamentals of the stock and foreign exchange markets are under pressure.

In the stock market, MSCI's developing country stock index is heading for its worst single-day performance in nearly two weeks.

Asian technology stocks were the main drag on Monday, with Samsung Electronics and SK Hynix leading the declines. Additionally, the MSCI Latin America index also fell by about 1%. However, both indices are still up 22% and 11.3% year-to-date, respectively.

Guy Miller, chief market strategist at Zurich Insurance, pointed out that investors' appetite for high-risk assets has waned as market expectations for Federal Reserve policy have become more hawkish.

He stated that emerging markets are being pulled in two directions: on the one hand , the technology sector remains strong, providing investors with clear earnings expectations and profit margins; on the other hand , the disruptive trend in US interest rates will pose a strong headwind to other sectors in the medium term.

In the currency market, the Colombian peso led the decline, falling 1.5%. This followed the country's newly elected president, Abelardo de la Espriella, announcing in a national address Sunday evening that he had ordered his economic team to begin negotiations with the International Monetary Fund (IMF).

The country's government is currently facing what officials describe as the worst fiscal crisis in the country's history.

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