In search of higher yields, many investors have been embracing ETFs holding emerging markets bonds this year, a theme benefiting funds such as the iShares J.P. Morgan USD Emerging Markets Bond ETF (NASDAQ: EMB).
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. EMB is now the world’s largest emerging markets bond fund, ETF or mutual fund.
Emerging markets bond funds denominated in local currencies have been popular with yield-starved investors this as the U.S. dollar has been in a funk for most of this year. Year-to-date inflows to emerging markets bond funds have already set an annual record. However, investors’ affinity for developing world debt could be challenged in 2018 amid a slew of elections that could spark increased political volatility.
“Countries that make up more than 50 percent of a Bloomberg Barclays developing-nation local bond index are gearing up for elections in the next 12 months,” reports Bloomberg. “While the outcomes of votes in countries like Russia are predictable, tight contests in heavyweights like Brazil and Mexico have potential to cause bouts of volatility. That may catch some investors off-guard after they piled into emerging-market assets this year in search of higher returns as yields in developed markets grind ever lower.”
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Brazil and Mexico, Latin America’s two largest economies, combine for 10% of EMB’s weight. Mexico is the ETF’s largest country weight at 6.16%. EMB has a 30-day SEC yield of 4.48% and an effective duration of 7.31 years.
“If history is anything to go by, traders need to start getting their act together. A report published by Citigroup Inc. earlier this month that detailed the election risks over the next 18 months in 20 countries concluded that elections have played a crucial role in the timing of ‘things going wrong’ in emerging markets,” according to Bloomberg.
Colombia, Indonesia, Malaysia and South Africa are among the emerging markets holding elections next year. Those countries combine for about 14% of EMB’s roster.
For more information on the fixed-income market, visit our bond ETFs category.