A report published by Bloomberg, highlights the increasingly unusual recovery in emerging market local currency bonds. Investors are increasingly turning to these lesser-known emerging countries as a means of protecting themselves from risks stemming from the United States.
The agency’s report noted that money managers are increasingly allocating investments outside of traditional benchmarks, often leaving currency risks unhedged in search of the best returns offered by fixed-income instruments. These investors are focusing on markets that are relatively insulated from the global economy, where investment opportunities are driven by local factors such as economic growth, reforms, and higher interest rates.
Marcelo Assalin, head of the emerging markets debt team at William Blair, commented that, they have a mix of currencies and consider being very undervalued, with very high interest rates and yields. These currencies tend to be uncorrelated with global markets, and that’s their secret.
High Returns
The report highlighted that historically; investors diversifying into emerging markets typically purchased sovereign dollar bonds to mitigate exchange rate risks and focused on stocks within benchmark indices. However, this trend is shifting, as investors now seek opportunities outside the global economy, aiming for higher returns and a hedge against global instability.
The report noted, “But there’s a trade-off: Investors are swapping global risks—like Trump’s unpredictable tariff policies—for local risks.” It added that these lesser-known markets often have low liquidity, which can trap investors during sudden downturns. Unforeseen political and economic events can quickly reverse gains, and the small size of these markets limits the available investment opportunities.
Aurelie Martin, an economist and investment analyst at Ninety One in London, cautioned that one has to be careful and conduct research thoroughly, as these markets are less well-known and less covered.
Portfolio Mix
Bloomberg highlighted that while fund managers are making unconventional bets, they are not ignoring mainstream emerging markets. In fact, major countries like Brazil, Mexico, and Chile have posted returns above 8%, driving the Bloomberg benchmark index for local currency bonds to its best start since 2023. Additionally, high-yielding countries like Egypt, with interest rates over 20%, are drawing carry traders.
Moreover, with minimal correlation to global markets, emerging countries can shield themselves from broader market influences, offering a potential advantage as investors brace for increased volatility in the months ahead.
Magda Branet, head of emerging markets and fixed income in Asia at AXA Investment Managers UK, whose fund holds Kazakhstan tenge bonds, stated that she did not hedge against currency risk as it would diminish interest returns.
In the present, major markets like Brazil are outperforming due to the weak dollar. However, if the dollar strengthens, it could lead to significant outflows. On the other hand, funds expect strong returns in emerging markets, which could offset potential currency losses while also generating gains.
Rewarding Returns
To cite, Uzbekistan offers a 17% coupon on its September 2034 som-denominated bonds, while Pakistan’s 10-year bonds offer an interest rate of 10.5%. Kazakhstan’s March 2035 bonds carry a coupon of 10.25%, and Jamaica’s five-year bonds pay 11.875% per annum.
Joseph Cuthbertson, a sovereign analyst at Pinebridge Investments, stated that, they are seeing momentum in reforms and improving credit fundamentals. The currency is gradually stabilizing, and bond yields are attractive, adjusted for any foreign exchange depreciation, referring to Uzbekistan.
However, the risk of a sharp currency loss remains a concern, as the political escalation in Türkiye demonstrates how even well-conceived investment projects can fail in major emerging markets.
Source: Al Qabas
