Is the boom in emerging-market debt (EMD) over?
Bonds issued by the governments of emerging economies have performed very well over the last few years, as a compelling combination of improving creditworthiness and higher yields relative to developed world bonds drew in income-hungry investors.
But the recent market turbulence has been a difficult time for the asset class, with the JP Morgan EMBI Global benchmark of dollar-denominated bonds currently down more than 7% since the start of the year.
In the aftermath, many investors are questioning whether this is a sign that the EMD bull market has run its course.
We shouldn’t read too much into a drawdown of this size, argues Paul McNamara of fund manager GAM on Citywire.co.uk. Sizeable market corrections are “almost part and parcel” of EMD investing; there have been several similar pullbacks over the past decade and each time markets recovered strongly.
Given that country fundamentals continue to be mostly solid, the same is likely to happen again, although investors should be selective: lower-quality government bonds, such as Argentina and Venezuela, are too expensive relative to better ones.
But one can make a more bearish case for EMD, says Michael Hartnett of Bank of America Merrill Lynch: “The EM yield argument is reversing”. If rates begin to rise in America, the extra yield available on EMD will look less compelling and investors will begin to exit.
Overall, cheaper emerging-market equities now look a better bet than bonds.