The prospect of interest rate cuts in the U.S. is spurring more interest in emerging market (EM) assets such as bonds. It’s not just the yield that’s a highlight of EM debt, but also their healthy government debt to GDP levels.
Schroders, a global asset management firm based in in the United Kingdom, highlighted various reasons to consider EM debt. as part of an investor portfolio. One of them was the healthier fiscal conditions in comparison to developed markets.
As mentioned, the government debt to GDP ratio on average is at healthier levels versus their developed markets counterparts. The ratio for the majority of EM nations is at around 60%, and even less when taking China out of the equation. In comparison, developed markets are above 100%.
“Emerging markets may offer an attractive opportunity for investors who want to diversify away from the risk created by those burdensome debt levels in the developed markets (DM),” the Schroders report said. The report noted that EM countries underwent supply chain disruptions during the pandemic. And that was then paired with high inflation.
However, certain EM countries were ahead of the game, opting to cut interest rates, while developed markets were raising rates to tamp down inflation. As inflation continues to dissipate, it creates a favorable environment for EM countries in terms of managing debt loads. That makes it more suitable for bond investors to consider from a credit quality perspective.
“The combined favorable scenarios of lower inflation and manageable debt levels may explain why many central banks across EM are already in a rate-cutting mode,” the Schroders report said.
Figure 4: Emerging Markets Remain Broadly Healthy
Average government debt as a percentage of GDP
Get Deeply Diversified EM Bond Exposure
To capture a spectrum of EM debt opportunities, investors will want to consider the deeply diversified Vanguard Emerging Markets Government Bond ETF (VWOB ). The fund consists of over 700 bond holdings with an average duration of just over seven years.
As of May 6, the fund’s 30-day SEC yield is 6.92%, which should appeal to yield seekers who want to take advantage of the elevated yields now prior to Fed rate cuts. Additionally, this fund comes with a low expense ratio of 0.20%.
VWOB seeks to track the performance of the Bloomberg USD Emerging Markets Government RIC Capped Index. The index specifically measures the investment return of U.S.-dollar-denominated bonds issued by governments and government-related issuers in EM countries.
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