April 8, 2026
By Salih Fendoglu, Mahvash S. Qureshi and Felix Suntheim
published by IMF Blog
Emerging-market firms and governments seeking funding from abroad are increasingly looking beyond banks to nonbank sources. As we discuss in an analytical chapter of the latest Global Financial Stability Report, this trend delivers important benefits but also poses new risks—notably greater vulnerability to a sudden reversal in capital flows when global shocks occur.
Since the global financial crisis, portfolio flows to emerging markets have increased eightfold, reaching about $4 trillion in cumulative terms, compared with a more modest increase in bank flows. Most of these inflows take the form of debt: portfolio debt liabilities now average about 15 percent of gross domestic product in emerging markets, up from around 9 percent in 2006. Eighty percent of this capital is provided by nonbanks, including investment funds, hedge funds, pension funds and insurance companies, twice the share seen 20 years ago.
For borrowers in emerging markets, the advantages can be significant. Plentiful capital can lower financing costs, supporting higher investment and stronger productivity growth. Market-based finance can help firms integrate into global value chains, a key driver of exports, by easing access to funding for trade, working capital, and other needs that increase their productive capacity. Over time, sustained access to international capital markets can also help deepen domestic financial systems and support long-term financial development.
At the same time, portfolio flows to emerging markets tend to be more volatile than bank flows and are increasingly sensitive to global risk conditions, as our analysis shows. Abrupt retrenchments can intensify external financing pressures, raise borrowing costs, and trigger sharp currency depreciations, leading to financial strains that weigh on economic growth. These risks have come to the fore in the context of the war in the Middle East, as several emerging markets are experiencing a reversal of capital flows from nonresident nonbank investors.
To gauge these effects, we use a one-standard-deviation increase in a widely used measure of global risk appetite, the CBOE Volatility Index, or VIX. This is roughly equivalent to the measure’s surge during the Federal Reserve’s interest-rate increases in early 2022. Such a jump is associated with portfolio debt outflows from emerging markets of about 1 percent of quarterly GDP on average (corresponding to a 0.3 standard deviation decline in flows relative to GDP). Outflows from investment funds are roughly twice as large. These effects are likely larger in countries with weaker fundamentals, such as higher public debt burdens, less adequate international reserve buffers, and weaker institutional quality.
Why are portfolio debt flows from nonbank financial investors so volatile? The reasons vary across investor groups.
Investment funds, which account for the bulk of portfolio investments in emerging markets, can be exposed to sudden redemption pressures, forcing them to sell assets quickly. Benchmark-driven strategies, such as those used by passive funds and most exchange-traded funds, automatically adjust portfolios when index weights change, increasing the risk of synchronized asset sales. Hedge funds, an increasingly important investor group in some emerging markets, often use leverage to amplify returns.
Such strategies can create vulnerabilities, as rising market volatility may trigger margin calls or risk limits, forcing asset sales and amplifying price pressures. Moreover, post‑2008 regulatory reforms that constrained the risk-taking capacity of global banks have likely pushed riskier borrowers toward nonbank financing. The result: reduced sensitivity of bank‑based financing to global risk, and increased sensitivity for market‑based nonbank financing.
Among nonbank investors, hedge funds and mutual funds are most sensitive to changes in global risk, while other investor groups such as pension funds and insurance companies tend to be more stable. For example, a VIX surge is associated with a decline of 1.3 percent in hedge funds’ holdings of emerging market securities. Mutual funds also retrench, but by a smaller amount—around 0.6 percent—broadly in line with the average response of all nonresident nonbank financial investors. By contrast, holdings by insurance companies and pension funds do not show a statistically significant response to the same shock.
Private credit, a fast-growing and relatively opaque segment of nonbank finance, poses additional challenges. In emerging markets, private credit—mainly direct lending to companies by nonbank investors—has expanded rapidly, with estimated assets under management increasing fivefold over the past decade to between $50 billion and $100 billion. While private credit can broaden access to capital, gaps in transparency and data availability may make it hard to quickly identify vulnerabilities or potential risks to financial stability.
Building resilience
Our analysis underscores the need for emerging market policy makers to closely monitor the composition of the nonbank investor base when assessing financial stability risks. Strengthening institutional quality and maintaining adequate fiscal and external buffers can also help mitigate capital flow volatility and attract more stable, long-term external investment.
In addition, a combination of measures—including monetary policy and exchange rate flexibility, complemented where appropriate by foreign exchange intervention—and macroprudential tools can help contain vulnerabilities and protect against potential risks. The IMF’s Integrated Policy Framework provides guidance on calibrating the appropriate mix and sequencing of these policy tools.
Systemwide stress tests, which simulate the impact of severe but plausible economic shocks, can further help gauge the resilience of the financial system to sudden capital flow reversals and ensure that financial institutions hold adequate capital and liquidity buffers.
Finally, stronger international cooperation is essential to close regulatory and data gaps and to limit the undesirable cross-border effects of global financial shocks.
—This article is based on Chapter 2 of the April 2026 Global Financial Stability Report, Capital Flows to Emerging Markets: The Role of Global Nonbank Investors.
About the authors:
Salih Fendoglu is a Senior Financial Sector Expert in the Monetary and Capital Markets Department of the International Monetary Fund (IMF). He works in the Global Financial Stability Analysis Division, where he regularly contributes to the thematic chapters of the Global Financial Stability Report. He has also participated in the IMF’s Article IV surveillance and the Financial Sector Assessment Program (FSAP) for Japan.
Mahvash S. Qureshi is an Assistant Director and Division Chief in the IMF’s Monetary and Capital Markets Department, where she heads the Global Financial Stability Analysis Division and oversees production of the analytical chapters of the Global Financial Stability Report.
Felix Suntheim is a Deputy Division Chief in the Global Financial Stability Analysis Division of the IMF’s Monetary and Capital Markets Department. Previously, he worked in the Economics Department at the UK’s Financial Conduct Authority.
Source: This article was published by IMF Blog
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