Emerging Markets Debt – Not as Risky as You Think

Over the next several years the challenges of collecting sufficient income, due to low current interest rates, may be somewhat lessened by taking a more tactical approach to fixed income investing. Current yield is a big component of investing for income investors and there are opportunities available for investors to achieve attractive current and total returns.

The perception for years has been that emerging markets debt as an asset class had been one of high volatility of returns. But look back to the crash of 2008 and remember that emerging markets experienced less of the effect of the crash and moved out of it faster than the U.S. did.

Looking back at 10-year annualized returns for major markets, the average annual total return for emerging markets debt was over 10 percent, while its standard deviation of returns was less than 10 percent. Contrast that with long-term U.S. Treasuries with had comparable returns but with a standard deviation of about 12 percent and Large Cap Domestic Equities with a 10-year average annual return of less than 5 percent  but a standard deviation of over 15 percent.*

Another factor is that valuations for this asset class remain attractive. A typical valuation metric for bonds is to look at the yield of the security compared to the yield of a U.S. Treasury security with a like maturity date – called the spread. The median spread of high-yield debt over the past 30 years has been about 500 basis points (five percent). Currently, that spread is around 600 basis points. If the economy recovers, during good economic times that spread generally narrows to 300-400 basis point range. This is positive for the price of the bonds.

Many emerging economies benefit from a younger demographic and a fast growing middle class. Also, many of these countries live within their means and have reached a point where they are self-funding.

 Talk to an advisor for detailed information and to see whether adding this asset class to your portfolio makes sense. There are real risks associated with emerging debt, this is not a “set it and forget” it strategy.



CBlakely CFP®, CTFA 05/2012





Source: Morningstar data as of 12/31/2011
Standard deviation is a statistical measure of historical volatility, the higher the standard deviation, the greater the volatility.