THE POTENTIAL OF EMERGING FIXED INCOME
The diversity of emerging fixed income assets provides a broad range of risk and return opportunities well above the traditional paradigm of the strong currency/local currency binomial.
Why is Emerging Fixed Income interesting in this environment?
It is clear that scenarios with negative interest from government bonds and a rise in credit risk due to recession render the traditional fixed income investment less appealing. Although emerging markets are not immune to macroeconomic and credit difficulties, and defaults and sovereign debt restructurings are more likely over the coming months, by and large the risk premiums remain more attractive when compared to equivalent assets in developed markets, and with their own historical rankings. A scenario that is enticing for any investors (global pension funds, insurers and private investors) still pursuing yield.
Many of the potential defaults in emerging markets are concentrated in smaller border markets and have already been identified (and probably ruled out), which is in contrast with the difficulty of predicting where corporate stress situations might arise in a number of US or European high yield sectors.
Beyond the opportunities of return and value currently offered by emerging fixed income, this type of asset has been characterised in recent years by the constant increase in the dispersion of yield by country, credit sector and currency. The various repercussions and responses to the COVID-19 crisis have further increased the differences between emerging markets, a concept that includes both resilient and mature countries with A and AA ratings and countries at risk of default or debt restructuring.
A fully flexible investment manager will be able to overcome such difficulties by tactically modifying the structure of the portfolio throughout the cycle. Moreover, the reference index can be ignored in favour of focusing on maximising the portfolio yield, fully reflecting his beliefs and avoiding a country or a sector in decline. Or even by hedging part of the portfolio, so as to limit the risk of capital loss at times of crisis.
In short, the diversity of emerging fixed income investments provides an ample dispersion of risk and return opportunities that is well above the traditional paradigm of the strong currency/local currency binomial. With the right experience and risk management process, Emerging Fixed Income can become a core allocation in portfolios with a capacity for resistance.
THE EXPERTS’ OPINION
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