Beware of overcrowding! Asset management giant warns: Popular trades in emerging markets have become excessively crowded.

According to Zhitong Finance APP, some of this year's hottest emerging market trades (such as going long on the Brazilian real and artificial intelligence (AI)-related stocks) are gradually raising concerns. Multiple asset management firms have warned that such trades carry risks due to overcrowding.

Wells Fargo & Co Securities pointed out that as one of the best-performing carry trade targets in 2025, Latin American currencies are now overvalued relative to fundamentals. Fidelity International expressed concerns about less liquid African markets—these markets could face risks if global volatility surges. Meanwhile, Lazard Asset Management remains cautious about the sell-off in Asian tech stocks in early November (the most severe since April).

"Investors are becoming overly complacent about emerging markets," said Brendan McKenna, an emerging markets economist and FX strategist at Wells Fargo in New York. "The vast majority—if not all—of foreign exchange assets are overvalued and do not adequately reflect the multiple underlying risks in the market. While these assets may continue to perform well in the short term, I believe a correction is inevitable."

Such concerns are not unfounded. After a strong market rally driven by the Federal Reserve’s interest rate cuts, a weakening U.S. dollar, and the AI boom, many segments of emerging markets have shown signs of overheating. The inflows that previously fueled the rally now pose the risk of sudden reversals, which could impact global market sentiment and lead to tighter cross-asset liquidity.

A quarterly survey conducted by HSBC in September among 100 investors (who collectively manage $423 billion worth of developing country assets) found that 61% of respondents were overweight in emerging market local currency bonds, compared to a net underweight of 15% in June. An emerging market bond index is heading for its best annual performance in six years.

The MSCI Emerging Markets Index rose for ten consecutive months from January to October this year, marking the longest winning streak in over two decades. The index has gained nearly 30% cumulatively and is on track for its best annual performance since 2017, when it surged 34%. However, 2018 saw a sharp 17% crash—when unexpected hawkishness from the Fed, the outbreak of the U.S.-China trade war, and a soaring U.S. dollar triggered significant corrections across overcrowded emerging market equities, popular carry trades (borrowing low-yield currencies to buy high-yield ones), and local currency bond trades.

"As we approach year-end, some investors may take profits on trades that performed well in 2025, which could lead to heightened volatility in the FX market," said Anthony Kettle, a senior portfolio manager at RBC BlueBay Asset Management in London, while commenting on local currency bonds.

This month, investors in Asian stock markets have personally experienced the risks posed by overvaluation and crowded trades — AI concept stocks, which had previously surged ahead, suddenly plummeted. Although technology stocks faced a global sell-off, analysts warned that the risk was more pronounced due to the sector’s high weighting in some Asian market indices.

The KOSPI is a typical example — this major global index, which had been the best-performing in 2025, once soared nearly 70%, but plummeted more than 6% in a single day amid skyrocketing volatility. Even though it recovered half of its losses by the close, the plunge was still alarming. "Positioning in Korean AI memory chip-related trades is extremely concentrated," noted Charu Chanana, Chief Investment Strategist at Saxo Markets in Singapore.

Rohit Chopra, Portfolio Manager for Emerging Market Equities at Lazard Asset Management in New York, turned cautious after the tech stock rout. "From a factor perspective, lower-quality companies have consistently outperformed higher-quality ones," he stated. "History suggests that such divergence is unsustainable, and if positioning concentration remains high, the trend could reverse." Data shows that the Lazard Emerging Markets Equity portfolio he co-manages has delivered a 23% return over the past three years, surpassing 95% of its peers.

Carry trade

Options traders appear to be turning bearish on the Brazilian real — a currency that has already delivered around 30% carry trade returns this year, but whose three-month risk reversal indicator hit a four-year high earlier this month.

"The Brazilian real is a prime example of an asset that has performed strongly this year but is now crowded with positions," said Alvaro Vivanco, Head of FX Strategy at TJM. He also pointed out that fiscal concerns in Brazil are resurfacing, providing another reason for increased caution.

McKenna of Wells Fargo Securities stated that other Latin American currencies, such as the Chilean peso, Mexican peso, and Colombian peso, are also "slightly overvalued."

According to data from the Bank for International Settlements, the Colombian peso’s trade-weighted exchange rate is at its highest level in seven years, one standard deviation above its ten-year average. For the Mexican peso, this metric is 1.4 standard deviations above the mean.

Frontier market bonds

This year, as the trend of broad-based investor withdrawal from U.S. assets has accelerated, some frontier market bonds have benefited. However, asset management firms like Fidelity International have begun issuing warnings about such assets.

"More concerning to me are trades where natural buyers may struggle to absorb concentrated selling," said Philip Fielding, portfolio manager at Fidelity International. He added that markets such as Egypt, Côte d'Ivoire, or Ghana "could also face liquidity challenges when volatility rises."

Compiled data shows that the $538 million Fidelity Emerging Markets Bond Fund managed by Fielding has delivered returns of approximately 12% over the past three years, outperforming 84% of its peers.