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Portfolio > ETFs > Broad Market

Emerging Markets Debt a Good Bet, Investors Say

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Last year, the increasing likelihood of a rise in interest rates pushed a large number of emerging market sovereigns to finance their funding needs in the international bond markets. Thus far, that rate hike has not yet materialized, so bond experts expect the issuance trend to continue for the time being.

Over the last few weeks, several countries including Indonesia, The Philippines, Turkey, The Dominican Republic, Mexico and Colombia, have brought successful dollar-denominated bond issues to market. All of these issues were met enthusiastically by investors, and, for the issuers, priced at competitive levels.  In fact, Colombia managed its tightest coupon yet with its $1.5 billion, 30-year bond.

“There is good appetite for sovereign issuance in hard currency from emerging markets and those deals that have been issued have performed very well,” said Arthur Hovespian, portfolio manager of the Payden Emerging Markets Bond Fund. “Going forward, there will be more issuance from sovereigns. You never can know the timing and the magnitude of the issuance, of course, but we expect it to continue and we believe appetite will remain strong.”

Investors have been keen on emerging market debt because of the higher yields it’s been offering. Colombia, for instance, offered 5% on its new 30-year bond, an amount that is not only attractive when compared to what developed market debt instruments are yielding, but also quite a coup from the issuer’s perspective, said Janelle Woodward, director of research at BMO TCH, which manages the BMO TCH Emerging Markets Bond fund.

“For Colombia to fund on the long end at those levels is quite something,” Woodward said. “Their debt has performed very well and this has been one of the strongest performing new issues.”

On the corporate side, too, emerging market issues have been strong performers. Companies like Kimberly-Clark de Mexico successfully sold $250 million in a 144A Reg S bond, without the explicit backing of its US parent, Woodward said, and Alfa, a large Mexican conglomerate, brought $1 billion worth of 10-year and 30-year bonds to the market last year.

But even as investors are aware of the yields on emerging market debt, the fall in oil prices and the geopolitical uncertainty surrounding Russia, in particular, have cast a pall on emerging markets debt and led some to pull back from the asset class, both on the sovereign as well as the corporate side. Many investors also have concerns that the higher value of the dollar will place pressure on the balance-of-payments in emerging market countries.

It’s important to note, though, that the emerging markets bond universe has grown considerably through the years and in many countries, there is a wide selection of sovereign, quasi-sovereign and corporate debt denominated in foreign currency for investors to choose from.

For example, Mexico’s most recent sovereign bond had to spar, in a sense, with state-owned oil company Pemex, which was trading at very attractive levels, thereby forcing the sovereign to price in such a way so as to attract investors, Woodward said.

“This has led to a kind of ‘stacking’ of emerging market debt, which has created more investment options. It’s given investors a chance to have an outlook on a sovereign, decide what we think is an appropriate price, and then allowed us to decide where we want to be in the structure – in the sovereign, a quasi-sovereign or a corporate.”

Despite these choices and although emerging markets debt is now a mature asset class, many investors still tend to paint it with a single brush and view it as a monolith, according to David Hinman, portfolio manager of the Forward EM Corporate Debt fund. The corporate side of the market has been particularly out of favor, he said, even though the balance sheets for many emerging market corporates are in fairly good shape and they have done a good job over the past few years of terming out maturities. Hinman said there are many good opportunities on the corporate side, particularly in Asia, in India – where reforms undertaken by the government of Prime Minister Narendra Modi are moving things along in the right direction – and in China.

Today, the choice of emerging markets debt allows investors to diversify across countries and to invest in such a way so as to minimize their exposure to such macro risks as a fall in oil prices, said Clem Miller, investment strategist at Wilmington Trust Advisors.

“With the exception of Indonesia, most of Asia benefits from lower oil prices, so if you have a portfolio that is largely Asia ex-Indonesia, Thailand, Malaysia and the Philippines, you can afford to have some Colombia in there, for example,” Miller said. “There are also a lot of emerging market corporates that have pretty strong franchises that are not tied to commodity prices – consumer staples companies, food and beverage companies, and others that work with global companies, like brewers working with Heineken or bottlers working with Coca-Cola. These are relatively protected and provide protection to investors.”

Most importantly, many emerging market countries have used the financing window that’s been open to them to work on improving fundamentals and putting in place major structural reforms, Hovespian said. In the long run, this will serve them well, boos their corporate sectors and benefit investors, too.


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