In a stubbornly low yield environment, fixed-income investors can turn to emerging market bond exchange traded funds to generate more attractive returns and diversify their investment portfolios.
For instance, investors can access local currency-denominated emerging market debt through the iShares Emerging Markets Local Currency Bond ETF (NYSEArca: LEMB) and Market Vectors Emerging Markets Local Currency Bond ETF (NYSEArca: EMLC). Both LEMB and EMLC track a basket of relatively high quality emerging market bonds denominated in their local currencies.
LEMB has a 4.5 year duration and a 5.11% 30-day SEC yield. The ETF’s credit break down includes AA 24.3%, A 27.9%, BBB 41.2% and BB 3.8%. Country tilts included Korea 21.1%, Brazil 13.1%, Mexico 9.4%, Turkey 4.7% and Malaysia 4.5%.
EMLC comes with a 4.9 year duration and a 5.97% 30-day SEC yield. The credit quality includes AAA 5.0%, AA 3.3%, A 20.3%, BBB 41.6% and BB 9.9%. Top country allocations include Poland 9.5%, Brazil 8.8%, Malaysia 8.8%, Mexico 7.9% and South Africa 7.5%.
Additionally, investors can choose from a number of USD-denominated emerging market bond ETFs, including the iShares J.P. Morgan USD Emerging Markets Bond ETF (NYSEArca: EMB) and PowerShares Emerging Markets Sovereign Debt Portfolio (NYSEArca: PCY).
EMB shows a 7.4 year duration and a 4.66% 30-day SEC yield. The ETF’s credit quality includes AA 4.4%, A 10.8%, BBB 48.0%, BB 15.8%, B 13.4%, CCC 3.0% and CC 1.3%. Country weights include Turkey 5.6%, Philippines 4.6%, Russia 5.4%, Indonesia 5.3% and Mexico 5.3%.
PCY has a 8.4 year duration and a 5.79% 30-day SEC yield. Credit quality allocations include AA 4%, A 18%, BBB 35%, B 21%, B 11%, CCC 4% and CC 4%. Top countries include Russia 4.1%, Venezuela 4.1%, Ukraine 3.8%, Latvia 3.7% and Brazil 3.6%.
While many may associate emerging markets with greater risks, investors should be comfortable with the relatively improved credit quality of emerging market issuers. According Bank of America Merrill Lynch, over 90% of emerging-markets sovereign debt was rated below investment-grade in 1998, but that number is now less than 40% as of March 2015, Ricardo Adrogué, head of emerging-markets debt, and Brigitte Posch, head of emerging-markets corporates, for Babson Capital Management wrote on InvestmentNews.
“With interest rate and economic cycles that vary from developed markets, investments in emerging markets can potentially offer low correlations with some of the asset classes that financial advisers typically manage on behalf of their clients,” according to the analysts.
Along with their diversification qualities, investors will also enjoy higher yields from emerging market debt assets. Emerging sovereign and local-debt index yields are at about 6.4% and 5.4%, respectively, whereas the yield on 10-year Treasuries is hovering around 2.13%.
Nevertheless, investors should be aware of the potential risks, including geopolitical risks and corporate governance issues. Moreover, emerging debt can be disproportionately affected by currency and interest rate changes.
For more information on the fixed-income space, visit our bond ETFs category.
Max Chen contributed to this article.