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Why investing in emerging debt markets still makes sense today

14 November 2017

With investors struggling to find attractive yields without drastically increasing their risk levels, the emerging sovereign debt market warrants closer inspection.

Although this market has shown sharp growth over the last two years, and the central banks of developed countries are looking to exit their quantitative easing programmes, this asset class could fulfil at least four objectives of any investor: invest in a sector that shows solid growth, benefit from solid economic fundamentals, obtain an attractive yield, and diversify their investments.

The steady expansion in the emerging sovereign debt market warrants a closer look at this asset class. The market denominated in hard currencies (USD, Euro and Yen) has grown to $900 billion today from $400 billion in 2004, while the local currency denominated market has grown to $7,500 billion this year from $1,600 billion in 2004.

Moreover, emerging countries’ solid economic fundamentals continue to attract strong interest from investors, with good reason. The overall growth differential in relation to developed countries continues to widen: 2.3 points in 2016 (real growth of 1.6% for developed markets versus 3.9% for emerging markets) versus 2.4 points anticipated this year (2.1% for developed markets versus 4.5% for emerging markets). This is without any widening of the fiscal deficit, which should remain at around 3.5%. The level of debt is still half the size of that of developed markets at 47%. Moreover, four years after the “taper tantrum”, the current accounts of the main emerging countries have improved (South Africa, Brazil, India, Indonesia, Turkey). And, last but not least, inflation is set to remain at around 3% for 2017, which leaves significant leeway for the central banks of these countries. 

A selective approach is, of course, necessary when considering this highly-diversified market of more than 60 countries across all continents, and englobing the entire gamut of ratings from investment grade through to high yield. All the more so in the current global environment of large central banks looking to exit their quantitative easing programmes. With price growth struggling to revive in the developed world, “aggressive” exit strategies by the FED or the ECB seem unlikely. Moreover, synchronised action by the latter would limit the impact on the currencies of the G3 and thus the volatility of emerging currencies. 

Against this backdrop, yields on emerging debt should continue to attract investor interest: a yield of 5.50% for dollar-denominated debt (J.P. Morgan EMBI Global Diversified Composite) with an average rating of BB+ and 6% for local currency debt (J.P. Morgan GBI-EM Global Diversified Unhedged).

Marine Marciano-Rimeu, 

Emerging Markets Manager  

The current management team may change over time.

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