Blurring Lines of Emerging Market Debt
Global money flows are shifting faster. Institutional investors have been at fault at trying to divide the world into sections such as developed markets versus emerging markets. Before the crisis, developed markets were thought of to be risk-free. Looking through the eyes of a developed market investor in the past these emerging economies have had defaults or issues with inflation. Times have changed and these growth economies are increasing real GDP year over year and playing a bigger role in the world economy.
After the financial crisis of 2008, the lines between “risky” and supposedly “risk-free” are blurring. Investors still remember issues with Latin American defaults, etc., but now Western economies are faltering. Greece, Portugal are facing dire issues, even the United States lost its AAA rating. Bottom-line, the risk premia for emerging markets has dropped as their finances have improved and credit ratings increase. In fact, many emerging markets are net creditors, possess strong reserves and have created sovereign funds to invest abroad.
Emerging market debt can be a source of diversification and alpha for public investors. Investor appetite is growing as many risk-averse investors are pushing down yields in treasuries and other safe haven instruments. The biggest move for emerging market debt is if it can cross into being considered investment grade. This is the ultimate game changer for emerging market debt.