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Fixed income

Emerging markets debt perspectives: Shop local

Alejandro L. Rivera
Portfolio Manager, Senior Research Analyst
Skyline with sunset

Despite recent volatility in global rates, the U.S. Federal Reserve Board (the Fed) and European Central Bank (ECB) confirmed they are in full “data dependency” mode as they approach peak rates; meanwhile, the Bank of Japan continues to act as a handbrake for global rate volatility, exiting their Yield Curve Control policy in the most gradual way possible.

Emerging markets (EM) local debt has been one of the top-performing asset classes in 2023, returning 7% year-to-date through 17 August, with the vast majority of that performance coming from rates, as opposed to foreign exchanged (FX) appreciation. Given this year’s rally, and recent rate volatility, we revisit the prospects for the asset class over the short- to medium-term:

Bottom line up front (BLUF): We believe local markets have more room to run – despite the 7% year-to-date rally. Given recent performance, and the current stage of the market cycle, selections will be particularly important as inflation trajectories diverge and market pricing of rate cuts across several countries are realized. We continue to favor countries with high real rates and markets where central banks act preemptively (and aggressively e.g., Brazil and Mexico) or where disinflation is happening faster than expected (e.g., Hungary, Uruguay, Kazakhstan, and Uganda). Structurally, we continue to favor a more diversified set of markets due to varying economic cycles across regions and countries.  

Going with(out) the flow: This year’s performance is notable given that it occurred without the accompaniment of substantial inflows – year-to-date net flows are essentially flat. Allocations to local markets remain on the lower end of the historical range due to the dollar’s fierce uptrend from 2021-2022. We believe this clean technical picture should provide a tailwind and further support the asset class into the latter portion of 2023 and beyond.

Don’t get carried away: One recent concern in the market is that emerging markets central banks’ rate cuts reduce their relative rate buffer to G10 – leading to potential emerging markets debt FX (EMFX) depreciation. However, we’ve found that history indicates the opposite – that rate cuts have only catalyzed more portfolio inflows as more investors take advantage of the cutting cycle. EMFX performance is not just about carry.

Fundamentally, EMFX is not only supported by high real yields, but improving balance of payments and resilient growth (vs. developed markets). Since 2015, we’ve seen structural improvements in EMs’ current accounts; meanwhile, supply chain diversification has led to improved net FDI flows to select EM ex-China. While we continue to view the dollar as overvalued, we recognize that it could benefit in periods of risk aversion. That said, we see the unwind of quantitative easing (QE) as a potential catalyst for a weaker dollar along with higher yields in Europe and Japan that can trigger some repatriation.

Policymaking, like EM, is not monolithic: Unlike previous hiking cycles, EM central banks have exhibited more orthodox policymaking than many of their developed market counterparts. They’ve preemptively responded to inflation with earlier and more substantial rate hikes. Coupled with improving current accounts (i.e., improved savings), higher interest rates have incentivized domestic investors to keep money onshore and invest locally. Even as rate cuts are being priced in, faster than expected disinflation in many markets are keeping relative real yields attractive. At this stage of the cycle, selections and a diversified portfolio will be even more important as inflation trajectories diverge and market pricing of easing in some countries becomes more realized. And of course, while many countries have elected for orthodox policy, this is not universal and macro fundamentals can vary quite drastically across emerging markets.

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This material is not intended to be a recommendation or investment advice, does not constitute a solicitation to buy, sell or hold a security or an investment strategy, and is not provided in a fiduciary capacity. The information provided does not take into account the specific objectives or circumstances of any particular investor, or suggest any specific course of action. Investment decisions should be made based on an investor’s objectives and circumstances and in consultation with his or her financial professionals. The views and opinions expressed are for informational and educational purposes only as of the date of production/writing and may change without notice at any time based on numerous factors, such as market or other conditions, legal and regulatory developments, additional risks and uncertainties and may not come to pass. This material may contain “forwardlooking” information that is not purely historical in nature. Such information may include, among other things, projections, forecasts, estimates of market returns, and proposed or expected portfolio composition. Any changes to assumptions that may have been made in preparing this material could have a material impact on the information presented herein by way of example. Past performance is no guarantee of future results.

All information has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such. For term definitions and index descriptions, please access the glossary on Please note, it is not possible to invest directly in an index.

A word on risk

Investing involves risk; loss of principal is possible. The value and income generated by bonds and other debt securities will fluctuate based on interest rates. If rates rise, the value of these investments generally drops. Fixed income securities are subject to credit risk, interest rate risk, foreign risk, and currency risk.

Nuveen provides investment advisory solutions through its investment specialists.

This information does not constitute investment research as defined under MiFID.

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