From a U.S. investor’s perspective, international diversification typically focuses on global equities, while the bond market outside the U.S. often receives less attention. However, 2024 performance data for non-U.S. bonds might prompt strategists to reconsider this oversight.
Below-investment-grade bonds from emerging market companies are showing significant outperformance this year. The VanEck Emerging Markets High Yield Bond ETF (NYSE: HYEM) has surged 12.1% year to date as of October 18, outpacing both global ex-U.S. bond benchmarks (BNDX) and U.S. investment-grade benchmarks (BND). HYEM’s performance has also outstripped U.S.-based junk bonds (JNK), which gained 7.8% over the same period.
Several factors are driving the rally in emerging market (EM) high-yield bonds, starting with the Federal Reserve’s recent interest rate cut. If this marks the start of a broader easing cycle, it could be positive for emerging markets, which are particularly sensitive to U.S. interest rate shifts.
Anders Faergemann, senior portfolio manager at Pinebridge Investments, notes that “eventually, EM local-currency bonds should benefit from global easing.” However, he cautions that recent U.S. dollar strength and delays in easing domestic monetary policy may have sparked some profit-taking.
Despite the U.S. dollar’s recent rebound, it remains below its peak from earlier this year. A softer dollar generally boosts foreign assets when converted into U.S. dollars.
Skeptics argue that while emerging market junk bonds are performing well in 2024, longer-term data reveals less compelling results. Comparing the U.S. junk bond ETF (JNK) to HYEM over the last five years shows that HYEM has underperformed while exhibiting higher volatility.
The key question now is whether HYEM’s strong performance in 2024 signals the start of a longer-term trend for emerging market high-yield bonds. For now, market sentiment appears to be leaning towards a positive outlook.
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