One of the ways fixed income investors can get more yield is by accepting more risk. This makes emerging markets (EM) bonds an attractive option, and they could be a value option given the current market landscape.
The pandemic certainly did its job in souring the taste of EM bonds for fixed income investors. Certain countries were able to stave off the economic effects of the pandemic while others faltered.
Given the mixed response, investors de-risked by avoiding EM bonds that were high in yield but also high on the credit risk scale. However, times are changing.
“Despite the recent turmoil in emerging-markets local bonds, they could be an attractive option based on valuations,” Morningstar said. “At the end of 2021, the emerging-markets local-currency bond Morningstar Category had a median SEC yield of 5.0%, which topped the median high-yield bond fund’s SEC yield of 4.0%.”
“In addition to the attractive yield, many emerging-markets central banks have proactively raised real rates (interest rates adjusted for inflation) at a much faster pace to their developed-markets peers, as many emerging-markets central banks have been less willing to test if current inflation will prove transitory,” Morningstar added.
The move towards global vaccination could also be re-instilling confidence in the EM bond markets. In addition, “supportive oil dynamics, continued growth recovery, and peaking inflation could lead to a rebound in emerging-markets local debt,” according to Morningstar.
An EM Bond ETF to Consider
Given the value-added opportunity, EM bond ETFs are an option to get this exposure. One Vanguard offering is the Vanguard Emerging Markets Government Bond Index Fund ETF Shares (VWOB ).
VWOB seeks to track the performance of a benchmark index that measures the investment return of U.S. dollar-denominated bonds issued by governments and government-related issuers in emerging market countries. The fund employs an indexing investment approach designed to track the performance of the Bloomberg USD Emerging Markets Government RIC Capped Index.
All of the fund’s investments will be selected through the sampling process, and under normal circumstances at least 80% of the fund’s assets will be invested in bonds included in the index. The fund comes with a 0.28% expense ratio.
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