Investors embraced emerging markets sovereign debt, both the
dollar-denominated and local currency varietals, in significant
fashion last year.
Returns generated by
and inflows to the ETFs
tracking this asset class affirm that assertion.
Due to higher yields than what is available on U.S. Treasuries
and other developed market bonds and, in many cases, stronger
government balance sheets, emerging markets sovereign debt has
attracted an increasingly large following among developed market
investors. However, there is an alternative that should not be
That being emerging markets corporate debt. Previously
, developing world corporates made a splash on the ETF scene last
year when the WisdomTree Emerging Markets Corporate Bond Fund
) debuted in March.
Those that thought emerging markets corporates would be too
much of niche play for most investors have had to eat their
had $88 million in assets under management in
. That number now resides at $126.6 million. Translation: EMCB'
AUM total has surged almost 44 percent in five months.
So successful has EMCB been that it prompted the creation of
not one, but two copycat funds, the iShares Emerging Markets
Corporate Bond Fund (NYSE:
) and the SPDR BofA Merrill Lynch Emerging Markets Corporate Bond
). Proliferation and success of ETFs are not the only reasons
investors should consider developing world corporates.
"Due to growth in new issuance, the investable universe of
emerging market (EM) corporate debt is now larger than the market
for EM U.S. dollar (
) sovereigns," said WisdomTree Portfolio Manager Rick Harper in a
new research note. "On average, EM corporate bonds currently
feature higher credit quality, less sensitivity to changes in
U.S. interest rates, and offer greater incremental income
potential than EM USD sovereigns."
Harper's observations jibe with comments made by
PIMCO in late October
In a note written by PIMCO's Ignacio Sosa and Anton
Dombrovsky, the bond house said "the dollar-denominated EM
corporate market has been growing steadily, and many corporates
can offer higher yields and lower durations than sovereigns."
As of the end of January, the J.P. Morgan EMBI Global EM USD
Sovereigns universe had a market size of just under $572 billion
compared to a market size of nearly $624.5 billion for the J.P.
Morgan CEMBI Broad EM Corporates realm,
according to WisdomTree data
The data confirm Harpers comments about superior credit
quality and less sensitivity to U.S. interest rate fluctuations.
Over 73 percent of the aforementioned emerging markets corporate
bond gauge is rated investment-graded compared to less than 62
percent for the sovereign debt index.
Average duration for the corporates is 5.59 years compared to
7.5 years for the sovereigns. Duration measures a bond's
sensitivity to interest rate changes.
Evidence has started to mount that EM corporates represent a
valid alternative or complement to sovereign debt.
"We believe that the factors that led to EM USD sovereign
outperformance may be waning," said Harper. "In our view, EM
corporate bonds offer the next wave of opportunities in EM fixed
income. For example, in Russia, investing in corporate bonds as
opposed to government debt resulted in a 1.64% increase in yield,
with less interest rate risk as of February 15, 2013."
With an allocation of 20.99 percent, Russia is EMCB's
second-largest country weight behind Brazil. Mexico, Hong Kong
and Colombia round out the top-five country weights in the ETF.
EMCB also features exposure to Jamaica, Kazakhstan and Venezuela,
among others, and that may have investors pondering if they will
be adequately compensated for the perceived added risk.
"In an investment environment where investors are constantly
questioning whether they are being adequately compensated for the
amount of credit risk they are assuming, they are simultaneously
confronting the prospect of higher long-term interest rates,"
Harper said. "We believe EM corporate debt could provide an
attractive solution to this dilemma. By enhancing yield potential
and overall credit quality, while at the same time reducing
interest rate risk, EM corporate bonds could provide attractive
total returns compared to EM USD sovereign debt in 2013."
Indeed, EM corporates do feature attractive yields. The
average yield to maturity on investment-grade bonds in J.P. CEMBI
Broad EM Corporates Index is 36 basis points higher than the
highly-rated issues in the sovereigns index. For the junk issues,
the yield-to-maturity difference is 39 basis points in favor of
corporates, though corporates often feature better yields than
A more relevant comparison is EMCB to the iShares iBoxx $
Investment Grade Corporate Bond Fund (NYSE:
), the largest corporate bond ETF by assets. EMCB has a 30-day
3.78 percent compared to 2.9 percent for LQD. EMCB's effective
duration is 6.17 years compared to 7.69 years for LQD.
(c) 2013 Benzinga.com. Benzinga does not provide investment
advice. All rights reserved.
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