Some analysts suggest that now is an incredibly attractive entry point to invest in emerging market bonds. We look at how to do this and whether you should.
Topics covered include:
- How emerging markets bonds have performed relative to U.S. bonds
- How frequently have emerging markets bonds defaulted
- What is the difference between local currency and U.S. dollar-denominated emerging markets bonds
- Why emerging markets nations are reforming
- What are the ways to invest in emerging markets bonds and what factors should you consider
Show Notes
Emerging Local Debt: A Once-In-A-Generation Opportunity? by Victoria Courmes—GMO
EM Sovereign Defaults at Record Level, but Rating Outlooks More Balanced—Fitch Ratings
The big opportunity in emerging market debt by Victoria Courmes—The Financial Times
The weakest links in the global economy are on the mend by Ruchir Sharma—The Financial Times
How to Invest in Closed-End Funds
Investments Mentioned
iShares JP Morgan USD Emerging Markets Bond ETF (EMB)
iShares JP Morgan Emerging Markets Local Currency Bond ETF (LEMB)
DoubleLine Low Duration Emerging Markets Fixed Income Fund (DELNX)
DoubleLine Emerging Markets Fixed Income Fund (DLENX)
Virtus Stone Harbor Emerging Markets Income ETF (EDF)
DoubleLine Income Solutions Fund (DSL)
Morgan Stanley Emerging Markets Debt Fund (MSD)
Morgan Stanley Emerging Markets Domestic Debt Fund (EDD)
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Transcript
Welcome to Money for the Rest of Us. This is a personal finance show on money, how it works, how to invest it, and how to live without worrying about it. I’m your host, David Stein. Today is episode 474. It’s titled “Are Emerging Markets Bonds a Once in a Generation Opportunity?”
A Generationally Attractive Entry Point?
A month or so ago one of our members of Money for the Rest of Us Plus sent me a strategy piece by the asset manager GMO. It was written by Victoria Courmes. She was on the portfolio management team for GMO’s emerging markets debt funds. In the piece she wrote, “Based on our reading evaluations for emerging markets debt, we anticipate looking back at this current period as a generationally attractive entrypoint for emerging market local debt.”
Now, in this episode, we’re going to take a look at emerging markets debt, but there’s a distinction that she made. There’s emerging markets local debt, which is denominated in the local currency of the issuing country, and there is US dollar-denominated emerging markets debt, that the interest and principal needs to be paid in US dollars.
And as an investor investing in emerging markets US dollar-denominated debt, you don’t have the currency risk. You’re not hurt by the weakening of the emerging market country’s currency, nor do you benefit when emerging markets currencies appreciate relative to the US dollar.
Courmes continues: “The US Dollar overvaluation is at relatively extreme levels, likely to provide a strong ongoing tailwind for non-dollar assets in general. We believe emerging market local debt can be a powerful way to capitalize on this as a supplement to both emerging markets equities and other asset classes.”
In another piece she wrote that was published in the Financial Times, that I’ll link to, GMO estimates that the US dollar is 8% to 15% overvalued versus the currency baskets that make up emerging markets local debt and emerging markets equities. She concludes in her piece “We believe that for relative value diversification and potential alpha reasons”, alpha being excess returns, “emerging markets local debt deserves a prominent place in portfolios today.”
Emerging Markets Bond Defaults
If you’re like me, when you think of emerging markets debt, the first word that comes to mind is “default”. Fitch, which is a rating agency, pointed out last year that there have been 15 separate default events for emerging markets bonds since 2020. And that’s across nine different countries. That compares to 19 defaults across 13 countries between the year 2000 and 2019. Because of the pandemic, as well as rising government indebtedness as a result to responding to the pandemic and just social programs and other government spending, that has led to continued defaults for emerging markets bonds.
Fitch points out that currently there are five emerging markets countries in default on their debt. Belarus, Lebanon, Ghana, Sri Lanka and Zambia. Some of the other defaulted countries, such as Argentina, have worked to restructure their debt.
And oftentimes when a country defaults they’ll work with the International Monetary Fund to get some funding and restructure that debt. And by and large, the type of debt that we’re talking about, be it local currency debt or US dollar-denominated debt, this is debt issued by governments. The vast majority of emerging markets debt is sovereign debt, rather than corporate debt.
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