Treasury yields are still elevated and the dollar is still weak. However, both assets recently rallied, indicating there’s room to the downside.
That could be to the benefit of emerging markets bonds and the VanEck Vectors Emerging Markets Local Currency Bond ETF (NYSEArca: EMLC).
EMLC seeks to replicate the price and yield performance of the J.P. Morgan GBI-EM Global Core Index. The index is comprised of bonds issued by emerging market governments and denominated in the local currency of the issuer. While the asset class is currently struggling, there’s still a case for emerging markets debt denominated in local currencies.
As noted above, 10-year Treasury yields are soaring and, as VanEck research points out, that scenario is conducive to embracing emerging markets debt. History proves as much.
“In the 2004-2007 reflation, emerging markets local currency was up 60% and emerging markets hard currency was up 30%; in the 2015-2019 reflation, both were up 30%,” according to VanEck.
EMLC: A Potent Income Idea
Emerging markets bonds, particularly those denominated in local currencies, are often levered to Fed action because lower U.S. rates can depress the dollar, thereby bolstering emerging markets currencies and assets denominated in those currencies.
The case for EMLC gets a lift when considering how emerging markets foreign currencies (EMFX) should be boosted by the declining dollar.
“Emerging markets local currency can be particularly attractive during these periods, as you can see from how well it did during the first reflation example. Emerging markets economies tend to benefit from U.S. twin deficits (fiscal deficits plus current account deficit)—the U.S. demands more goods from the emerging markets, particularly commodities,” adds VanEck.
With investors confidence returning, so is a penchant for yield. Bond markets overseas could provide more competitive yields when compares to those of the U.S., where credit risk in a late market cycle could pose a concern.
Certain areas overseas may be earlier in their market cycles compared to the U.S., so issues like rate risk are not yet a concern. As opposed to emerging markets equities that primarily concentrate on China, EMLC also gives investors exposure to other corners of the bond market for diversification.
EMLC yields an impressive 4.94%.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.