Supportive Environment for EMB

Benefits of EM vs DM Today

What we're most excited about in emerging market bonds is, first and foremost, yields are now higher, and investors are looking at all bonds as a result. When they take that look, what they're going to find is that on a one-year, three-year, or even 20-year basis, EM bonds have done much better than, for example, the global Ag, and certainly much better than their allocations merit. So that's the number one excitement, is that there's interest in bonds. The EM bond interest is going to flow naturally from that. You can't really escape the conclusion.

The second thing that's interesting and exciting to us is EM central banks hiked earlier and larger than the Fed did and then did other DM central banks. And as a result, when and if the Fed starts cutting, it's going to be magnified. You're going to see an even bigger impact on those markets that had central banks that hiked earlier and larger.

The third exciting thing is the world is concerned about high debts and high deficits in governments, and EM has the opposite, low debts and low deficits. So it's got a very good answer to a big concern that's rising, and you can even see it in popular media.

Global Risks to Watch

The biggest risks for markets are geopolitics and fiscal, in our view. Geopolitics, the Red Sea is a good example, is a clear example of supply risk. It is also a clear example of inflation risk. War is generally inflationary. And the Fed and other developed market central banks can't really do much, and it's exacerbated by the growing observation that a lot of the places with supply risk are in an increasingly adversarial relationship with the U.S. So I'd say geopolitics is one clear risk and it's inflationary and probably means higher commodity prices or risks to higher commodity prices.

The second big risk is fiscal policy in the U.S. and the developed markets. The IMF has U.S. fiscal deficits in the 6% to 8% range as far as the eye can see, and that's a big pressure on interest rates, global interest rates. There's one pool of savings, and if a big actor is borrowing a lot, that puts upward pressure on it.

Why EM Today?

The good news about these risks is, number one, is in general that EM is fairly insulated from them. First, their central banks hiked much more. Their real interest rates are much higher in DM than EM. So there's a big cushion in the event that some problems develop and develop markets.

The second is that EM bond markets generally are commodity exporters. They benefit from higher commodity prices, unlike most investors' investments, which suffer from higher commodity prices. The third thing that's good news is the low debts and deficits that characterize EM. They make them much less vulnerable to the fiscal pressures coming out of the U.S. and the developed markets.

And last, this might sound trivial. But EM is home to very, very popular governments and strong politics, stable politics, stand in contrast, frankly, to the unstable politics that you see in DM. So I think even politically, EM could be viewed as somewhat of a safe haven relative to a DM that's got a lot of political instability.

Check out our new white paper on fiscal dominance, which we think explains the last 20 years of fixed income asset price performance. In it, we compare emerging markets fiscal stances to develop market fiscal stances and say that the DMs look pretty bad and that's why they perform poorly in the last 20 years. And the EMs look pretty good and that's why they perform well and it looks set to continue.