A fresh take on local emerging market debt

Can EM local currency bonds deliver on investor’s needs?

• A growing number of investors are recognising the role an EM local currency bond allocation can play as a source of diversification and returns. However, volatility across the market cycle is a key consideration.
• Investors looking to capture the upside potential of the asset class while limiting the downside and pursing a relatively smooth return path may need to look beyond traditional benchmarks.
• Although the EM debt universe is diverse across a variety of metrics, from credit quality to liquidity and volatility, almost 60% of the volatility in the main local EM debt index is concentrated in five countries.
• In our view, that means many investors in the asset class are effectively forced to take risk that does not fully compensate them in terms of return potential. This acts to dampen the risk-adjusted returns of both the index and benchmark-relative strategies.
• A total return approach can help investors to get around these challenges. By favoring the low volatility markets in the investment universe and economies with improving long-term structural dynamics, our total return EM local currency debt strategy has done just that.
• In a short paper we explain the approach that lies behind the delivery of all of the market upside but less than the market volatility plus cushioning in down markets.