David Roberts, head of fixed income at Kames Capital, gives a strong verdict. “Emerging market debt is currently the least appealing asset class,” he says. “EM debt looks expensive following its recent recovery, while in the medium term it is vulnerable to US rate hikes and the strong dollar.”
Spreads have indeed compressed further this year, even though the Fed has been more hawkish than expected. This prompted Blackrock’s chief economist Scott Thiel to admit at a recent press meeting that emerging market debt’s “very good run year-to-date was quite a surprise to us”.
So is there still a case to make for the asset class then? Fund selector sentiment is still going relatively strong, with those intending to increase their allocation outnumbering those planning to decrease exposure. This is partly, however, due to an almost desperate need for yield.
A wall of money
Sergio Trigo Paz, head of emerging market debt at Blackrock, acknowledges the case for his asset class is less clear-cut than a year ago, but he believes rising interest from institutional investors, who have been responsible for the bulk of recent inflows, will underpin continued growth.
“There’s a wall coming to emerging markets. It’s not a Mexican wall, but a wall of money,” he said. “We have seen $2.5bn in new inflows year-to-date. Clients feel a strong need to increase their allocation as they see emerging market debt as a multi-year trend.”
On the short-term, a strong dollar and rising interest rates may well produce some problems for the asset class though, realises Trigo Paz. “Therefore we have been increasing our exposure to investment-grade bonds so we will suffer less volatility than when having a beta 2 exposure versus the benchmark.”
Read on the next page whether there really could be a bubble in emerging market debt