EM debt star to stay on the rise amid Brexit fallout and Fed rate hike

Added 14th September 2016

More than half (54%) of the respondents surveyed by NN Investment Partners expect institutional investors to raise their exposure to emerging market debt over the next three years despite volatility inducing events like a Federal Reserve rate rise and the Brexit aftermath.

EM debt star to stay on the rise amid Brexit fallout and Fed rate hike

Only 7% of survey participants anticipate a decline in popularity, the data showed.

Several impending macro events in developed markets that have caused a certain degree of investor anxiety will cause EM debt to appear even more attractive, according to NNIP’s findings.

The majority of investors (41%) forecasted the further break-up of the European Union would result in a surge in EM debt popularity. One in four put their money on Brexit or a Fed rate hike as the events most likely to draw investors in to the EM debt space. While a further 19% and 15% think a rise in US inflation and Eurozone inflation will be the catalysts for EM debts continued popularity.

NNIP’s data also found that 60% of respondents believed the asset class would be increasingly loved by investors because of the diversification benefits it provides. And an additional 56% felt attractive valuations around EM debt relative to other types of bonds was the chief reason investors would increase their exposure. 

“In terms of diversification,” said Marco Ruijer NNIP EM debt lead portfolio manager, “the biggest benefit of EMD is ‘geographic’, which was cited by 52%. Other benefits mentioned include enhanced income generation (48%); improved credit risk exposure (46%); improved credit sector exposure (20%) and duration (14%).

Ruijer added: “The bond yields available in EMs are clearly attractive to investors, who have been heavily focused on seeking income for some time. As the global economy continues to improve, investors will invest more in the asset class as they gain ever more confidence in the creditworthiness of EM debt and see it as a great way to diversify away from developed markets. Nearly half (46%) of our respondents expect fundamental credit conditions to improve in EMs over the next two to three years versus 24% who expect a deterioration.”

Investors were not without their concerns for the asset class, however. Notably, 43% said ‘political uncertainty’ could make EM debt less appealing. Credit quality, liquidity, a China slowdown, rising interest rates and a shortage of bonds were also cited as factors that would give investors pause about throwing their money into EM debt.

“Our research shows investors do have some reservations about EM debt generally, with the majority (60%) saying it is risky to take a broad passive approach rather than adopting active asset allocation to stock-pick the best opportunities and control the risks elsewhere,” said Ruijer.

On average, investors believe that 6% of a portfolio should be invested in EM debt and more than one in seven (15%) believe exposure should be over 10%.

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