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EM local bonds gain favour as dollar debt lags
Behind the strategy are attractive valuations and the potential to profit from carry trades, where investors borrow in low-yielding currencies to invest in higher-yielding assets.
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On Friday, US Treasury yields experienced an upward movement as investors expressed concerns regarding inflation. The Federal Reserve’s recent increases in interest rates and indications of more hikes in the future contribute to this shift. With traders predicting additional adjustments in upcoming meetings, there is a growing focus on global central banks tightening their monetary policies to address escalating price pressures.
The preference is showing up in fund flows, positioning and relative performance. A Bloomberg gauge of domestic EM debt has beaten an index of dollar-denominated bonds by more than 3 percentage points since the end of June, set for the biggest quarterly outperformance since 2022.
Fund managers are leaning into that divergence too. A Bank of America Corp. survey of 38 global fixed-income fund managers overseeing $444 billion in combined assets showed that 84% of the respondents were overweight local EM debt relative to hard currency bonds, versus just 38% in August. The poll was conducted between Sept 4 and 9.
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The trade could still be tested after the Federal Reserve raised interest rates and signaled it may do so again. A renewed advance in the dollar could turn investors away from emerging-market assets such as local-currency debt.
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