Bolstering the Case for Emerging Markets Bond ETFs

Investors have been quick to embrace U.S.-focused fixed income exchange traded funds this year. For many investors, that has been the proper course of action, particularly as it appears unlikely the Federal Reserve is unlikely to raise interest rates anymore than two times this year.

Another set of bond ETFs are also benefiting from still low U.S. interest rates and the Fed’s reluctance to go full-speed ahead to get back to normalized borrowing costs: Emerging markets bond ETFs, such as the iShares J.P. Morgan USD Emerging Markets Bond ETF (NYSEArca: EMB) and the PowerShares Emerging Markets Sovereign Debt Portfolio (NYSEArca: PCY), another dollar-denominated ETF. [Cash Comes Back to EM ETFs]

When it comes to U.S. bond ETFs, investors may be attracted to the cheap valuations and wider yield premiums that these bonds offer over safe-haven government bonds after benchmark yields on 10-year Treasuries dipped back toward all-time lows. Moreover, the rebound in energy prices could have reassured investor fears of a potential defaults in the energy space.

However, emerging markets bond ETFs, including EMB and PCY, the two largest in the space, offer compelling yields of their. Additionally, these funds look more attractive thanks to the recent struggles encountered by the U.S. dollar.

“Within EEMEA/EM, bonds in the 7-10y area that stand out on a volatility adjusted basis, ie, offer relatively more spread compared to volatility, include Egypt, Lebanon, Rwanda, Ivory coast, Senegal, Kenya, Ethiopia and Ukraine. Bonds where spreads seem somewhat low compared to their recent volatility include Zambia and also South Africa, to some extent. Bonds that appear to be broadly in line include Gabon, Ghana. Russia and Turkey, other CIS or CEE names like Kazakhstan, Hungary, Romania and Croatia, which do not particularly stand out either way based on this comparison,” according to a Bank of America note posted by Dimitra DeFotis of Barron’s.