Yes, the Federal Reserve raised interest rates last week, and yes, more rate hikes are coming. However, yields on high-quality domestic government bonds are still low and are likely to remain that way for some time.
That point underscores why some investors may want to consider international debt, including emerging markets bonds. Exchange traded funds, such as the American Century Emerging Markets Bond ETF (AEMB), make accessing what can be a tricky-to-navigate asset class easier.
AEMB, which debuted last July, holds dollar-denominated sovereign and quasi-sovereign debt as well as some corporate bonds. The fund could be an interesting choice for income investors this year because emerging markets centrals already boosted interest rates in 2021, indicating that many of their tightening cycles could close out in 2022.
“We think that emerging markets debt is going to be a key pillar in this investment in order to help investors achieve these goals,” said William Blair’s Jared Lou in an interview with Institutional Investor’s Mike Corcoran. “Low core rates make it even harder to see outsized returns from fixed-income portfolios in the future. Therefore, we think emerging markets debt needs to be an important part of the solution.”
AEMB is actively managed, and that’s meaningful on a number of fronts. The fund had a weight of 4% to Russian bonds as of February 28, but it’s possible that exposure has since been pared or eliminated. Additionally, emerging markets fixed income is a prime example of an asset class where active management can benefit investors because fund managers can seek compelling credit opportunities while mitigating rate risk.
“With the Federal Reserve keeping core rates so low, they are encouraging you to take more risk and they are providing excess support for many economies in order to refinance their debt at lower rates, which we believe makes credit losses lower in the future. So, emerging markets debt has the potential to be a more attractive asset class in this low-rate environment,” added Lou.
AEMB allocates 37% of its weight to Mexico, Brazil, Indonesia, and Colombia. The American Century ETF sports an option-adjusted duration of 6.8 years, putting it in intermediate-term territory. Approximately 88% of the fund’s 102 holdings are rated BBB, BB, or B and about 39% are corporate bonds.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.
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