While U.S. fixed-income investors are grappling with concerns at home, emerging market bond ETFs may provide an attractive alternative for yield-seekers looking to diversify a bond portfolio
“Real yields in emerging markets (EM) have remained at compelling levels over the past few years even as they continued to decline in developed markets, and even as nominal yield levels declined in some EM countries. All else equal, currencies associated with higher real yields are generally expected to perform better than those with relatively lower real yields,” Fran Rodilosso, Head of Fixed Income ETF Portfolio Management for VanEck, said in a note.
Compared to the U.S., U.K., Japan and Eurozone, emerging market real yields is as attractive as it has been in five years, according to VanEck and Bloomberg data.
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Real yields are nominal yields adjusted for inflation, which is one of the greatest contributors to the nominal yield levels of emerging marekt local currency bonds. The higher nominal yields help compensate for the risk posed by local inflation, which weighs on currency returns. However, controlled inflation could support local currencies, and along with high nominal yields, these emerging market fixed income assets may appear relatively more attractive to bond investors.
Rodilosso also argued that positive real yields can also be a better indication of fundamental value versus nominal yield.
“From a policy perspective, positive real yields provide central banks the ability to ease monetary policy to spur growth, a policy tool that is not currently available in most developed markets,” Rodilosso added.
Bond ETF investors interested in gaining exposure to emerging market local currency bonds have a number of options to choose from. For instance, bond investors may look to something like VanEck Vectors Emerging Markets Local Currency Bond ETF (NYSEArca: EMLC) and VanEck Vectors Emerging Markets Aggregate Bond ETF (NYSEArca: EMAG) to diversify their fixed-income portfolio with overseas opportunities and potentially higher yield generation.
EMLC is comprised of bonds issued by emerging market governments and denominated in the local currency of the issuer. EMAG holds a basket of sovereign bonds and corporate bonds denominated in local emerging market currencies, along with those denominated in U.S. dollars and euros, and the portfolio includes both investment-grade and below investment-grade debt.
“Relative to developed markets, emerging markets local rates appear attractive in both nominal and real terms, despite rising real yields in the United States. As of March 31, 2018 the weighted average 10-year yield on the J.P. Morgan GBI-EM Global Diversified Index was 6.26%, versus the 10-year U.S. Treasury yield of 2.74%. In real terms, EM were yielding 2.85% above inflation, which was 2.26% more than U.S. Treasuries and 3.60% more than the G-4 (U.S., United Kingdom, Japan and Eurozone) average, which actually remains well into negative territory,” Rodilosso said.
EMLC has a 5.94% 30-day SEC yield and EMAG shows a 4.27% 30-day SEC yield.
For more information on the fixed-income markets, visit our bond ETFs category.