In focus

The essential guide to investing in emerging market debt

In #TheZero interest rate environment, investors are reaching for yield wherever they can find it.

Emerging market debt (EMD) deserves more attention than it has received. It can meet the criteria of many investors – yield enhancement, diversification, and liquidity.

However, the way that most investors have accessed the asset class is sub-optimal. In particular, the overwhelming bias that many have towards hard currency, US dollar-denominated, bonds at the expense of local bonds and currencies. The former falls short on two of those criteria: diversification and liquidity.

Read the full paper here.

What is covered?

EMD accounted for 22% of world debt as at the end of 2019; it is far from a niche asset class.

In this paper we look at the different components of EMD, analyse the attributes of each, and assess how investors might access these opportunities. In EMD there is good reason to look beyond the index – we highlight why.    

The paper also includes a review of how EM countries have changed their approach to borrowing. And it examines why structural forces may be turning against the US dollar.  

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Here are the key takeaways:

  1. EMD can be a useful addition to portfolios as core bond yields have fallen to record lows. But investors need to understand the different nature of hard and local currency bonds. While hard currency EMD can provide yield enhancement, it falls short on diversification and liquidity. Local currency bonds, on the other hand, are more liquid and are better diversifiers. They are also the largest part of the market, although investors need to look beyond benchmark indices to access the full opportunity set.
  2. Within local EMD, the value is not uniform. As EM countries vary, so do the yields of the bonds. In this environment, countries with positive real yields are a better starting point. Furthermore, the greatest value in EMD is EM currencies that have depreciated substantially since 2011.
  3. As accidents happen in EM, investors who have the flexibility are best served by opting for an unconstrained strategy that has the capability to exclude certain countries.