The Bottom Line
- Emerging market (EM) government debt denominated in local currencies is well ahead of many other major debt sectors so far this year—including EM debt denominated in US$.
- That’s due in large part to nearly all EM currencies strengthening against the US$ this year—a sharp reversal from late last year, when the already-strong dollar strengthened further following the U.S. election.
- It also reflected investor worries that the Trump administration might take a tough stance on trade—an unsettling prospect for many EM economies.
- As those fears receded, investors returned to the sector in earnest, pushing net inflows into the EM debt sector to record highs.
- Those rapid shifts in sentiment are emblematic of the volatility often seen in this asset class—as well as the opportunities that can arise for active managers with the flexibility to respond swiftly to market developments.
- Given the growth potential of developing economies and the sector’s relatively low correlation to investment-grade debt in developed markets, the EM debt sector could offer attractive long-term prospects for return and diversification for investors willing to accept some turbulence along the way.
- Higher yields and potentially undervalued currencies could be especially attractive against the backdrop of a cyclical growth rebound that appears to be strengthening across emerging markets.
- With over 70 EM countries, there’s a constantly shifting opportunity set for active managers seeking to exploit pricing inefficiencies when conditions in one or more areas swing relative to others.