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Fortify Your 40% With Emerging Markets Bonds

Apr. 07, 2021 10:43 AM ETBNDX, FAX, EMB, EDF, EMD, VWOB, EMLC, EDI, PCY, TEI, GIM, MSD, EDD, ELD, BWX, WIW, EBND, CBON, WIP, LEMB, IGOV, JEMD, WIA, FIXD, FEMB, EMAG, ISHG, DIAL, BWZ, KBND, JPMB, EMTL, FAIL, EMBH, EMSH, FISR, FLIA, DGMS-USD4 Comments
VanEck profile picture
VanEck
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Summary

  • Emerging markets bonds historically do well in a rising interest rate environment.
  • The U.S. is on track to potentially grow faster than China in 2021, in our view.
  • Emerging markets economies tend to benefit from U.S. twin deficits.

Emerging markets bonds historically do well in a rising interest rate environment. If interest rates are rising due to higher growth prospects - as opposed to a "taper tantrum1" - emerging markets bonds may do particularly well. This makes sense, given that rising U.S. growth tends to lead to higher imports from emerging market countries, higher capital flows, and generally "risk-on2" conditions. GDP is, after all, the denominator under which everything from corporate debt service to individual consumer consumption is based. Credit quality should improve during periods of rising economic growth, and we believe the U.S. looks set for a lot of growth. In fact, the U.S. is on track to potentially grow faster than China in 2021, in our view! The only reason to worry, traditionally, would be a Federal Reserve (Fed) looking to take the punchbowl away too quickly, and we don't expect to see that.

Of course, the month or two during which U.S. interest rates first rise to accommodate this higher growth - as is happening now - is painful for all bonds. This is the simple math of duration3 multiplied by yield change. The year so far has followed that math, as emerging markets bonds have gone down in line with their duration times the U.S. yield. Spreads haven't widened, in other words. But what will happen once the bonds have absorbed this initial price rise? What is the longer-term effect of the higher yields that they pay and the improving economic conditions?

Emerging markets bonds have historically done well! Look at the two charts below, which show emerging markets debt performance during the past two reflationary periods (2004-2007 and 2015-2019). Both of these show what happened through a bunch of interest rate hikes by the Fed (which you can see in the light blue staircase line). In the 2004-2007 reflation, emerging

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VanEck profile picture
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VanEck’s mission is to offer investors intelligently designed investment strategies that capitalize on targeted market opportunities. VanEck seeks to provide long-term competitive performance through active and index strategies based on creative investment approaches and portfolio delivery.At VanEck we are driven by innovation, our hallmark since the company’s founding in 1955. Our efficiently-constructed investment strategies benefit from our experience and in-depth knowledge of targeted asset classes. Our actively managed VanEck Funds target natural resource equities and commodities, emerging market equities, global fixed income, and liquid alternatives. Security selection is the cornerstone of our approach to managing these funds. Our index-based VanEck Vectors ETFs are purpose-built, aimed at either providing exposure to asset classes that are underrepresented in investor portfolios or offering a superior approach to established investment categories. We offer unique, actively managed investment portfolios in hard assets, emerging markets, precious metals including gold, and other alternative asset classes. Headquartered in New York City, we have a network of offices worldwide, including offices in Sydney (Australia), Shanghai (China), Frankfurt (Germany), Madrid (Spain), and Pfaeffikon (Switzerland).Disclosure: http://www.vaneck.com/seeking-alpha-terms-and-conditions/

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Comments (4)

m
Take me out of this Bond Game ; Emerging Market Bonds are not like Equities with RISING Interest Rates.

When the Dollar drops , ca`ching>ca`ching EM Bonds .
Retired Investor profile picture
JEMD allows you to own EM debt with a CEF schemes to close between 7/1/22 and 1/1/23. seekingalpha.com/... With just passing $8, I apparently was too pessimistic in my guess at the termination payout.
The Freak profile picture
I own FAX and while it did take a little hit last several weeks it now looks to be digesting rate rise as the article suggests. FAX is the only bond exposure I own.
P
It’s tricky timing EM bonds when you expect US interest rates to increase over time (which is bad short term for EM bonds).
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