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Republic of China, South Korea, Indonesia, and Thailand,
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capital controls implicitly build on the presumption that foreign investors destabilize local financial markets, but the
international finance literature has provided scarce evidence
on this subject. This paper fills this gap.
Perhaps the most difficult issue is to gauge the actual amount
of hot money during a specific period for a specific country.
Following Fuertes et al. (2016), in this paper I identify de facto
hot money as the temporary component of equity flows using
state-space models via a Kalman filter algorithm.
The main part of this paper is the interrelationship between hot
money in equity flows and the local stock returns. My empirical
analysis indicates that massive hot money in equity flows from
the United States to EMs does yield a significant impact on the
local stock markets, but the local stock markets have little effect
on hot money. For investment advisors and consultants, hot
money can be a clue for them to predict the trend of the stock
market. They should pay more attention to the composition
rather than quantity of cross-border equity flows, especially
One future direction can be to look at hot money from the perspective of trust (e.g., Massa et al. 2015), because the EMs are
typically low-trust markets and the advanced markets are usually high-trust ones. For this reason, it is plausible that the hot
money in equity flows from the United States to the EMs is
greatly trusted by the investors in the United States. Hence, the
international hot money is able to affect the emerging equity
markets by both stock-picking and timing, as well as resist the
attraction from the short-term fluctuations from the emerging
equity markets. However, it is beyond the scope of this paper
and I leave it as a possible direction for future research.
I thank Debbie Nochlin (managing editor), Mary George (copy
editor), and the anonymous referees for their extremely helpful
comments and suggestions. I am very grateful for the excellent
research assistance from JiaJia Sun and the research grant
from the Journal of Investment Consulting.
Cheng Yan, PhD, is an assistant professor at the Durham University
Business School. Contact him at firstname.lastname@example.org.
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