While equity-based emerging markets exchange traded funds continue to stumble while falling victim to some of the largest outflows since the global financial crisis, emerging market bond ETFs look significantly less bad.
The iShares J.P. Morgan USD Emerging Markets Bond ETF (NYSEArca: EMB) and PowerShares Emerging Markets Sovereign Debt Portfolio (NYSEArca: PCY) have been sturdy alternatives to equity-based emerging markets funds.
While many emerging markets have garnered a bad reputation for experiencing spiraling debt defaults in face of rapid currency depreciation, the developing economies are more resilient in a weak commodities environment.
According to BlackRock, emerging market governments have accumulated less dollar debt, built up foreign reserves and adopted flexible exchange rates to obviate mistakes during the 1980s and 1990s crises. Though the current outlook for emerging markets debt is far from sanguine, some analysts see opportunity in the asset class. [Investors Turn to Emerging Market Bond ETFs for Higher Yields]
Now, some market observers see opportunity with developing world bonds even as stocks from Brazil to China weaken.
“We see opportunities for local debt in countries such as Russia and Brazil whose monetary policies are running counter to that of the U.S. On the currency side, we believe that there will be steadily improving opportunities over the next few quarters because many emerging market countries have depreciated their currencies well beyond what was necessary to re-establish balance on their current accounts. This would especially be the case if the Fed’s tightening process proceeds in a measured fashion. The yield differential that many of these currencies offer today is substantial. On average, five-year EM local debt offers an approximate 7% yield advantage over that of developed markets,” said Federated Investors in an interview with Dimitra DeFotis of Barron’s.
The attractive emerging market bond yields, though, are not without their risks. For example, many fixed-income observers are closely watching the Federal Reserve’s monetary policy. A Fed rate hike could cause a large exit out of emerging market assets in favor of better returns in the U.S.
However, it should be noted that most of the bonds held by EMB and PCY, the two largest emerging markets bond ETFs, are rated well into investment-grade territory.
iShares J.P. Morgan USD Emerging Markets Bond ETF
