The September 11 terrorist attacks in the United States spelled further adversity for emerging markets. The assault created “a short-term negative for emerging markets,” says Mohamed El-Erian, manager of the PIMCO Emerging Markets Bond Fund. “It’s going to push into fast forward the concerns we had about emerging countries.”
The bulk of those concerns are focused on Argentina, which El-Erian says is one of those higher-risk countries that “will come under renewed pressure because of weaker domestic conditions and the more difficult external environment.”
El-Erian recommends that advisors looking to dabble in emerging markets steer clear of buying J.P. Morgan’s Emerging Markets Bond Index Plus (EMBI+), the benchmark index for emerging markets bonds, because “20% of the index is Argentina.” Most investment managers use the EMBI+ for performance comparisons, and according to Offitbank’s most recent emerging markets research paper, the quandary in such widespread use of the EMBI+ is that “it does not come close to accurately representing the emerging markets bond universe.” In its research paper, Offitbank, the wealth management bank owned by Wachovia, argues that this “shortcoming is especially relevant given current concern about the possibility of default by Argentina, the most overweighted country in the index.”
PIMCO’s El-Erian says the EMBI+ index was up 3.9% at the end of August, but Argentina was down 18.4%. “If you take away Argentina, you get a very solid performance.” By avoiding Argentina, El-Erian says his Emerging Markets Bond Fund is up 17.6% year-to-date, and is the best performing bond fund according to Morningstar. “The difference is not only what you buy, but what you avoid buying,” he says.
Now is the time for advisors to buy good quality emerging markets bonds, El-Erian says. “If advisors are not buying the index, but are looking at individual components, then we think there is value in emerging markets.” He says the terrorist attacks “reinforce the argument that quality has to be the leading guideline at this point.”