Income is getting harder to source in the U.S., but some global options, including the iShares J.P. Morgan USD Emerging Markets Bond ETF (EMB), the largest emerging market bond-related ETF by assets, can help investors boost income profiles.
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-markets economies face a lot of idiosyncratic risks, and the bonds issued by their governments and agencies perform more like high-yield corporate issues than U.S. Treasuries,” writes Morningstar analyst Neal Kosciulek. “They are more sensitive to credit risk and suffer more severe drawdowns.”
Were the dollar to weaken, EMB’s appeal could be enhanced. A stabilizing dollar outlook also diminishes the danger of taking on emerging currency exposure, which has historically acted as a large source of volatility for investors investing in local-currency-denominated emerging market debt.
“Emerging-markets government bonds tend to offer higher yields relative to developed- markets government bonds, given their additional credit risk,” notes Kosciulek. “The strategy’s market-value-weighted approach relies upon other market participants to set bond prices, free-riding off the market’s collective wisdom and following trends in the issuance of new index-eligible bonds to determine the identities and weights of its holdings.”
Even before the pandemic-induce selling, emerging economies like Venezuela, Argentina and Lebanon were already at risk of defaulting on sovereign bonds. In recent weeks, Zambia and Ecuador have also moved toward restructuring debt.
However, some investors see a buying opportunity in this oversold segment. It’s possible the JPMorgan’s Emerging Market Bond Index Global Diversified index could generate a 32% in dollar terms over five years after accounting for compound returns and assuming yields and currencies remain unchanged.
“Credit risk here is high. As of June 2020, about 60% of the fund’s assets were invested in investment-grade debt, with the bulk of the fund’s remaining assets rated below-investment-grade. Although this is about 15 percentage points overweight investment-grade debt relative to the category, it matches other market-value-weighted index funds,” according to Morningstar.
The research firm has a Silver rating on EMB. The fund has a 30-day SEC yield of 4.33% and charges 0.39% per year or $39 on a $10,000 investment.
For more on income strategies, visit our Retirement Income Channel.