Emerging Markets Bonds Offer Opportunities as Rate Hikes Ease

Moving forward, the capital markets are expecting central banks to ease rate hikes, which can turn the credit risk dial higher. That could open up opportunities in riskier assets like emerging markets (EM) bonds.

The EM debt market is already seeing strength when it comes to the more depressed economies, according to the Financial Times. Due to their higher credit risk, certain EM countries can offer higher bond yields, but the tide could be turning in terms of price appreciation as well.

“Bonds issued by some of the world’s poorest economies have been among the best performers in debt markets this year, helped by signs that global interest rates are close to peaking and breakthroughs in restructuring talks in countries pushed into default by the shocks of the past three years,” the FT report said. “Sovereign bonds with rock bottom credit ratings of triple-C and below have delivered an average total return of 27 per cent since the start of the year, leading a rebound in foreign currency emerging market debt.”

In addition, more tailwinds could push EM debt prices higher. This includes a weaker U.S. dollar, which is imperative in the performance of EM assets, as they typically follow how well the local currency is behaving relative to the greenback.

This comeback for EM assets has been in the making for the last three years. The COVID-19 pandemic gave EM economies a gut-punch that keep assets reeling and investors from allocating into EM debt.

“Investors got absolutely crushed last year,” said Richard House, head of emerging markets in the fixed income team at Allianz Global Investors. “But they have done better this year and it’s partly because this distressed sector has performed spectacularly well.”

Get Broad Emerging Markets Bonds Exposure

If investors want broad EM debt exposure, exchange traded funds (ETF) can offer easy ingress into this bond universe. A fund worth noting is the Vanguard Emerging Markets Government Bond Index Fund ETF Shares (VWOB).

VWOB seeks to track the performance of a benchmark index that measures the investment return of U.S. dollar-denominated bonds issued by governments and government-related issuers in emerging market countries. The fund employs an indexing investment approach. It aims to track the performance of the Bloomberg USD Emerging Markets Government RIC Capped Index.

For more news, information, and analysis, visit the Fixed Income Channel.