Outflow From EM Bonds Could Translate to Strength for EDZ | ETF Trends

A strong dollar and rising global inflation have hit emerging market (EM) equities with a two-punch combination thus far in 2022. This combination is also translating into weakness in the EM bond market, which could outline a path for gains in inverse exchange traded funds (ETFs).

For the greater part of 2022, stocks and bonds have been following each other downward amid inflation fears. Now, it appears that safe haven bonds are starting to diverge from the path as recession fears mount in the capital markets.

However, that may not be the case when it comes to EM bonds. With inverting yield curves in U.S. Treasury notes signaling a recession, fixed income investors could be put on pause when it comes to riskier debt like EM bonds.

According to a Financial Times article, that weakness in EM bonds is translating to an outflow of $50 billion from EM bond funds in 2022.

“The net outflows from EM fixed income funds are the most severe in at least 17 years, far worse than were recorded during a bout of acute concern about China’s economy in 2015, data collated by JPMorgan show,” the article noted.

“Before the Fed started hiking the asset class was not doing great [and then] the market started turning a bit to fear a recession, which caused another sell-off,” said Marco Ruijer, emerging markets portfolio manager at William Blair.

Playing Weakness in EM Assets

As more pressure is applied to EM assets like bonds, as mentioned, one way to play the bearishness is via inverse ETFs for tactical exposure. To further amplify gains, traders can access thrice the leverage of a normal fund using the Direxion Daily MSCI Emerging Markets Bear 3X ETF (EDZ).

EDZ seeks daily investment results of 300% of the inverse of the daily performance of the MSCI Emerging Markets IndexSM. The fund invests in swap agreements, futures contracts, short positions, or other financial instruments that, in combination, provide inverse or short leveraged exposure to the index equal to at least 80% of the fund’s net assets.

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