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T. Rowe Price ("TRP") claims compliance with the Global Investment Performance Standards (GIPS®) and has prepared and presented this report in compliance with the GIPS standards. T. Rowe Price has been independently verified for the twenty four-year period ended June 30, 2020, by KPMG LLP. The verification report is available upon request. A firm that claims compliance with the GIPS standards must establish policies and procedures for complying with all the applicable requirements of the GIPS standards. Verification provides assurance on whether the firm’s policies and procedures related to composite and pooled fund maintenance, as well as the calculation, presentation, and distribution of performance, have been designed in compliance with the GIPS standards and have been implemented on a firm-wide basis. Verification does not provide assurance on the accuracy of any specific performance report.

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22 March 2021 / GLOBAL FIXED INCOME

Seeking Alpha in Emerging Markets Corporate Debt

After a decade of strong performance, the asset class deserves a serious look.

Key Insights

  • Emerging markets (EM) corporate debt is now a larger market than U.S. high yield or EM sovereigns, with over USD 2.5 trillion of bonds across 60 countries.
  • Thanks to an average BBB‑ rating and generally healthy fundamentals, the asset class generated a 5.8% annualized return for the decade until December 31, 2020, with relatively modest drawdowns.1
  • A benchmark‑agnostic but risk‑aware approach allowed the Emerging Markets Corporate Bond Strategy to outperform the index over one, three, and five years as of December 31 2020.2

Corporate debt is the fastest‑growing area of hard currency emerging markets (EM) debt, with almost USD 2.5 trillion outstanding and new issuance averaging 15% of debt outstanding per year since 2011. The asset class generated strong risk‑adjusted returns over the five years ended December 31, 2020, due to the broadly healthy balance sheets of most EM companies and a tilt toward investment‑grade (IG) Asian markets.

Going forward, we expect to see sustained opportunities in EM corporate debt as new issuers should continue to come to market and the asset class becomes more widely held among institutional investors. Additionally, we believe the asset class offers many opportunities for bottom‑up fundamental managers such as ourselves to potentially generate meaningful alpha for our clients.

Diverse Sources of Alpha

T. Rowe Price uses a benchmark‑agnostic but risk‑aware approach to select IG and high yield positions that we believe have the potential to outperform the broader market over the medium term. As we evaluate the approximately 1,300 companies in our investment universe, we focus on corporate governance; liquidity; detailed financial and strategic analysis; and environmental, social, and governance (ESG) considerations to help us identify outperformers and avoid credit distress.

750 Number of companies, across 60 countries, that the EM corporate debt universe encompassed as of December 31, 2020.

This systematic approach allowed us to outperform at the composite level both our benchmark and our eVestment peer universe over the three and five years ended December 31, 2020, by capturing diverse sources of genuine excess return rather than relying on carry or excessive portfolio concentration.

(Fig. 1) Size of Global Bond Sectors

EM debt offers investors a large and diverse opportunity set. Debt outstanding, as of December 31, 2020.

Size of Global Bond Sectors

Sources: J.P. Morgan, Bloomberg Index Services Limited, and MSCI (see Additional Disclosures). EM sovereign: J.P. Morgan Emerging Markets Bond Index Global, EM corporate: J.P. Morgan CorporateEmerging Market Bond Index Broad Diversified, EM local: J.P. Morgan Government Bond Index—EMGlobal Diversified, U.S. IG corporate: Bloomberg Barclays U.S. Corporate Investment Grade Index, U.S.high yield: Bloomberg Barclays U.S. High Yield Index, EM equity: MSCI Emerging Markets Index.

As of December 31, 2020, the EM corporate debt universe encompassed over 750 companies across 60 countries. Since 2011, the market has grown an average of 15% per year, fueled by numerous debt issuers, unlike the stable to shrinking U.S. high yield and EM sovereign debt markets.

(Fig. 2) Risk and Return Profiles

EM corporate bonds have featured relatively strong risk‑adjusted performance. December 31, 2010, Through December 31, 2020

Risk and Return Profiles

Past performance is not a reliable indicator of future performance. Sources: J.P. Morgan, MSCI, Bloomberg Index Services Limited (see Additional Disclosures). U.S. investment grade = Bloomberg Barclays U.S. Investment Grade Bond Index, EM sovereign = J.P. Morgan EMBI Global Diversified Index, EM corporate =J.P. Morgan CEMBI Broad Diversified, U.S. high yield = Bloomberg Barclays U.S. Corporate High Yield Index, Euro high yield = Bloomberg Barclays EuropeanHigh Yield Index Hedged, EM equities = MSCI Emerging Markets Index.

Higher credit quality, USD denomination, and a structural tilt toward Asia made EM corporate debt among the most defensive EM assets during recent market corrections. In 2018, for example, the J.P. Morgan CEMBI Broad Diversified declined 2% while most other EM assets declined 5%–15%.

In the first quarter of 2020, EM corporates3 experienced a monthly maximum drawdown of 11.5%, while other EM asset classes declined 13%–20%.

EM Corporates Offer Diversification Potential

While many institutional investors currently do not have strategic allocations to EM corporate debt, the asset class offers meaningful potential diversification benefits relative to many widely held institutional assets, particularly commodities, core fixed income, and U.S. equities.

(Fig. 3) EM Corporate Debt Ownership

Different buyer bases potentially allow managers to exploit regional inefficiencies. Debt outstanding, as of July 31, 2019

EM Corporate Debt Ownership

Source: J.P. Morgan (see Additional Disclosures).
*Not including unidentified investors. Normalized to total 100%.

In addition to generating attractive risk‑adjusted returns at the index level, a closer examination of the EM corporate debt universe shows that different regions historically have offered significantly different risk/return profiles, allowing investors to calibrate their exposures throughout a market cycle.

(Fig. 4) Contributions to Excess Returns for Emerging Markets Corporate Bond Representative Portfolio

Most sectors and half of EM countries contributed meaningfully to positive performance. *Five Years ended December 31, 2020

Contributions to Excess Returns for Emerging Markets Corporate Bond Representative Portfolio

Past performance is not a reliable indicator of future performance. The representative portfolio is an account in the composite we believe most closely reflects current portfolio management style for the strategy. Performance is not aconsideration in the selection of the representative portfolio. The characteristics of the representative portfolio shown may differ from those of other accounts in thestrategy. Please see the GIPS® Composite Report for additional information on the composite. Sector classifications based on T. Rowe Price internal classifications. Source: T. Rowe Price. *Versus the J.P. Morgan CEMBI Broad Diversified.

Very different domestic buyer bases also potentially allow active managers to exploit technical inefficiencies across regions. In Asia, large numbers of local buyers historically have tended to provide support during market sell-offs, generating a more defensive return profile. In Latin America, by contrast, foreign investors—including U.S. crossover investors—dominate the market, making for more frequent technical dislocations. 

IMPORTANT INFORMATION

This material is being furnished for general informational purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice, and prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up. Investors may get back less than the amount invested.

The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction.

Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources' accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date noted on the material and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price.

The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request.  

It is not intended for distribution to retail investors in any jurisdiction.

Canada—Issued in Canada by T. Rowe Price (Canada), Inc. T. Rowe Price (Canada), Inc.’s investment management services are only available to Accredited Investors as defined under National Instrument 45-106. T. Rowe Price (Canada), Inc. enters into written delegation agreements with affiliates to provide investment management services.

© 2021 T. Rowe Price. All rights reserved. T. ROWE PRICE, INVEST WITH CONFIDENCE, and the bighorn sheep design are, collectively and/or apart, trademarks or registered trademarks of T. Rowe Price Group, Inc.

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