When the Going gets Tough: The Resilience of EM Corporate Debt
Some investors view emerging markets (EM) in general as risky, and this perception sometimes carries through to EM corporate debt. But the downside experience in this asset class has been remarkably limited.
Display 1 shows the losses suffered by different risk assets in falling markets. EM corporate debt has consistently outperformed EM sovereign debt, EM local currency debt and EM equities during bear markets. We think this pattern is likely to repeat in future, because EM corporates are, on average, an investment-grade credit quality asset class, with a moderate duration (i.e. interest-rate exposure) profile.
Display 2 shows rolling one-year returns—made up of capital gains/losses and coupon income—for the EM corporate and hard-currency sovereign markets (the return history for corporates starts in 2003).
Except for double digit falls during the 2008 global financial crisis, EM corporate losses have been moderate. Given the attractive yields available—typically in the 5% to 7% range—if investors had continued to hold the bonds, the coupon income alone would have allowed them to recoup the capital loss even if bond prices had remained flat. Historically, however, prices have often tended to recover quite swiftly, rewarding investors who bought the dips. As shown in the chart, drawdowns were typically followed by double-digit recoveries the following year.
The volatility of EM corporates has become more muted over time, and this has to do with the rising average credit quality of EM debt. Back in the 1990s, this was primarily a high yield asset class, dominated by countries like Argentina, Turkey, Brazil, Russia. Since then, the asset class has transformed. Asia credit has gone from 5% of the market to over 50% of the market. This has deflated the historical volatility of returns.
Emerging markets corporate debt, like any other risk asset, goes through patches of volatility. But in the past decade it has offered investors better compensation for risk than any other EM asset class, and market inefficiencies and information gaps have offered frequent opportunities for active managers to outperform the index. For investors looking for higher yield or emerging markets exposure, we believe that EM corporates have a valuable part to play in long-term portfolio allocation.
Display 1: EM Corporates Resilient at Times of Turbulence
Performance During Market Sell-offs
Past performance is not a reliable indicator of future performance.
As of 30 September 2019
EM Local Currency—J.P. Morgan GBI-EM Global Diversified; EM Sovereign—J.P. Morgan EMBI Global; EM Corporate—J.P. Morgan CEMBI Broad Diversified; US High Yield—Bloomberg Barclays U.S. Corporate High Yield; EM Equity—MSCI Emerging Markets. Returns are in US dollars. Source: Bloomberg Index Services Limited, J.P. Morgan, MSCI. See Additional Information.
Display 2: Trend Towards Less Volatile Returns
Rolling One-Year EM Returns
Past performance is not a reliable indicator of future performance.
Returns in US Dollars. As of 30 September 2019. EM Sovereign—J.P. Morgan EMBI Global Index; EM Corporate—J.P. Morgan Corporate Emerging Markets Bond Index Broad Diversified. Source: J.P. Morgan. See Additional Information.
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