1. International Fund Flows and the Predictability of Equity Returns Harley Adams Brenna Copeland Van Menard Mary Rachide Erik Schneider February 28, 2002

2. Agenda Hypothesis Project Data Background Methodology Results Next Steps

3. Hypothesis Flow of funds between foreign countries and the US can be predictive of country equity performance. US flows: – Into an economy should predict positive returns – Out of an economy should predict negative returns

4. Data: Creating the Benchmark DataStream – MSCI country monthly index returns in USD – Local foreign currency exchange rates to USD – Salomon Brothers Brady Bond local country monthly index return – MSCI US & MSCI World monthly total return indices – Goldman Sachs World Energy Returns Index – 30-day Eurocurrency rate

5. Data: Testing the Hypothesis Treasury International Capital (TIC) – Gross US purchases and sales of foreign stocks Limitations – 2-month time lag – Revisable for 24 months after publication – Captures location of transaction, not residence of transactor

6. Background Why would funds move? – The local market is under performing – Local economy is booming; market is considered over-valued – Political instability is generating sovereign risk – No relationship We hope to determine correlation between funds flows and market performance, if any.

7. Methodology Benchmark regressions w/ logical economic variables Add TIC data and Evaluate Resulting Models – Argentina, Brazil, Venezuela and Mexico – Net and gross flows; binned net and gross flow predictions. Create basic trading strategy to evaluate effectiveness – Pick country equities or the 30-day Eurodollar deposit Aggregate statistics about directional count

8. Results Trading Strategy using TIC data provides superior volatility adjusted returns compared to either buy and hold or base case. Appears that flows predict movements opposite of our expectations – US Flows OUT predict positive market returns

9. Next Steps Portfolio Allocation Test TIC data effectiveness over time Evaluate flows in and out of US Treasuries

10. Questions