Yield-starved investors have taken a shine to emerging markets bond exchange traded funds in recent years. Funds such as the iShares J.P. Morgan USD Emerging Markets Bond ETF (NYSEArca: EMB) have made the asset class more accessible but that access does not come without challenges.
EMB tracks the J.P. Morgan EMBI Global Core Index, a market-cap-weighted index. Potential investors should note that since it is a cap-weighted index, countries with greater debt will have a larger position in the portfolio.
Emerging market bond investors should analyze concentration risk or look under the hood of their funds to better understand how much of a particular investment they are exposed to.
Previous Fed rate hikes have triggered volatility in the emerging markets. 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.
“Debt issued by governments and companies in emerging economies can be harder to buy and sell. Higher transaction costs have resulted in tracking errors in emerging-market bond ETFs. The complexity of these bonds, particularly those of far-flung markets, can also give an edge to active bond managers, who in some cases have spent decades gaining an understanding of idiosyncratic political and currency risks,” reports Carolyn Cui for the Wall Street Journal.
The PowerShares Emerging Markets Sovereign Debt Portfolio (NYSEArca: PCY), another dollar-denominated ETF, is another emerging markets bond ETF to consider.