The long-term case for emerging markets in bond portfolios is still strong, even though investors have pulled out billions in recent weeks, according to Eaton Vance.
Investor sentiment on emerging markets swung negative in recent weeks on concerns over tariffs, trade, global growth and a resurgent US dollar, the US US$434 billion asset manager said.
In all, investors pulled out about $6 billion from EM bonds in the week ending June 20, according to EPDR Global data cited by international media.
But EM bonds are still attractive, especially if you know where to look, according to Eaton Vance's director of diversified fixed income Kathleen C. Gaffney
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"We believe it's a mistake for bond investors to give up on EM in their portfolio due to recent price weakness driven by trade fears and a rising US dollar," Gaffney said.
She said investing away from the US, both in terms of the dollar, rate risk and fundamentals is one of the major themes of Eaton Vance. And it's important to remember that developed and emerging markets are at different stages in their cycles.
"For example, in the US, we have low but rising inflation as the Federal Reserve unwinds its balance sheet and gradually hikes rates. US GDP growth has been slow and steady, averaging around 2% the past few years," she said.
"In EM, the picture is quite different. Many individual countries are growing fast, and most central banks are not hiking rates. In fact, those that have been hiking have broadly been defending their currencies. Also, much of the economic growth in EM is organic, rather than being based on mergers, acquisitions and financial engineering."
She acknowledges that EM markets have a political risk but adds that it offers opportunity for improvement as the impact of politics in selection may serve as an opportunity for differentiation and return, especially as developed central banks remove liquidity.
EM credit has better quality, from a broad balance sheet standpoint, with generally low leverage, she said.
"Also, as more investors become comfortable with the sector, EM companies can benefit from greater access to capital. And as EM companies tap the markets for financing, they have made improvements in transparency and disclosure. These are all signs of economies and markets maturing," Gaffney added.
She said it is important to take a long-term view on EM currencies and bonds because the sector can be influenced by changes in sentiments.
Eaton Vance sees tailwinds to EM as: rising population growth, improving standard of living for middle classes, stable inflation, a still-favorable monetary policy, and a rising consumer class that may spur growth.
"Further, we believe EM are in a better position now than before the financial crisis," she said.
"Fundamentals have improved, more countries are reforming to increase competitiveness in the global markets, and they are less dependent on capital inflows for investment."