6 ways that EM debt has transformed—and become worthy of a core portfolio allocation
Emerging market debt has evolved into a broader, higher-quality market that now offers multiple levers for return generation across countries, currencies and issuers.
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For anyone who might still question whether they should have an allocation to emerging market debt, it’s important to understand six key ways the market has transformed and why any lingering perceptions of it as a volatile, high-risk, low-quality market may no longer be accurate.
- A once almost entirely high-yield market is now three-fifths investment grade.
Twenty-five years ago, this market was 100% sovereign debt and 96% high yield. It included only 16 countries and was dominated by just four: Venezuela, Argentina, Brazil and Mexico. Today, this market provides access to more than 90 countries and 60% of the debt is investment grade. It went from a $175 billion market cap to more than $5 trillion today, comprising sovereign debt in hard and local currency and corporate debt.
2. The diversity of the market today gives investors and bond portfolio managers a range of options they didn’t have decades ago.
In emerging market debt, the key is not to think about EMD as a single bucket. You can find strategies that are sovereign-only, blended, local currency or tilted to single-B risk. You can find portfolios that are very high yield and others that are more investment grade or split-rated. Depending on an investor’s risk appetite, there are multiple solutions that EM managers can offer today. The diversity of the EM debt market today also gives portfolio managers access to the full bond manager’s toolkit, including decisions on duration, convexity, yield curve positioning, country and sector overweights and underweights, issuer selection and currency risk management. There are also hedging options that weren’t available before and those tools will only keep expanding.
3. Investors now have access to EM across 90 countries, far surpassing the much smaller number of developed markets.
In many ways, emerging market fixed income now offers everything you’d expect in developed bond markets, with one big difference: it spans around 90 countries instead of the 10-15 for developed market debt or the one for fixed income investors who have been entirely US-centric. These markets don’t all move in tandem and when you look at cross-correlations and the opportunities for diversification, the case for EM debt becomes compelling.
4. The case for owning EM is no longer dependent on dollar weakness but stems more importantly from market fundamentals.
EM is not a single trade. It’s a broad and increasingly diversified opportunity set with multiple potential winners across countries, sectors and themes. Where fundamentals are improving, the impact can be felt not only through FX, but also through spreads and rates, with scope for tighter spreads, stronger currencies and lower local rates over time. One way to illustrate the point is to look at relative debt dynamics. Around a decade ago, Mexico’s debt-to-GDP was roughly 60% while the US was closer to 85%. More recently, the US has moved materially higher, often cited as close to 125% when including major long-term obligations, while Mexico has remained around 60%.
5. The critical role of EM in today’s global economy has become evident in the products we own.
Many of the products people consume every day already reflect EM’s growing role in global supply chains. The car you drive may have been assembled in Mexico. The steak on your plate might be imported from Argentina. The salmon you ate for lunch could come from Chile. The flowers you buy for your family may be grown in Colombia, and the list goes on.
Yet when you look at many portfolios, the exposures are still heavily concentrated in domestic developed market assets. As EM’s role in global growth and trade continues to expand, the allocation conversation should be anchored less on a near-term dollar view and more on how EM fits into a forward-looking, diversified long-term portfolio.
6. The tariff scare may have been a one-off event, limited to 2025.
In April 2025, when President Trump announced a sweeping set of tariffs, emerging markets sold off hard. It wasn’t just one pocket of risk: US equities sold off, the dollar weakened and long-dated Treasuries came under pressure. Given the recent US Supreme Court ruling against the sweeping tariffs the President imposed, our view is that the tariffs end up being a “one-and-done” 2025 event for markets.
Conclusion: A market that is well positioned for what’s ahead
Emerging debt markets don’t need the US dollar to fall by 5%-10% to deliver outperformance. If currencies that are moving from crisis to adjustment to equilibrium outperform the dollar by 1-3%, that will make a significant difference. When you add up all the potential return drivers—duration, investment-grade spread moves, high-yield spread moves, FX and carry—could you see significant returns from this asset class in the next year and beyond? In our view, the potential for that is certainly in place.
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