(Bloomberg) — Amid cheers for emerging markets making a comeback, analysts and investors experienced another setback as US Treasury yields surged. Although the Federal Reserve is anticipated to end its aggressive monetary tightening campaign, investors are exhibiting optimism once again.
Euphoria is taking over developing-nation assets, as indicated by the significant rally in stocks and sovereign bonds last month, and cash inflows into the world’s largest exchange-traded fund, which tracks emerging debt. Pramol Dhawan, Pacific Investment Management Co.’s head of emerging-market debt, expressed strong optimism, highlighting the under-appreciated potential of emerging markets.
Emerging-market debt and asset class outperformance were anticipated in 2023 by a large cohort of asset managers, including Pimco, on Wall Street, driven by major central bank pivots and China’s economic reopening. However, Beijing’s struggle to stimulate growth and 10-year US yields briefly surpassing 5% led to unexpected challenges.
As 2024 approaches, the chorus of optimism on Wall Street has been renewed, with Goldman Sachs and Morgan Stanley projecting double-digit returns for developing-nation sovereign dollar bonds. Despite the optimistic outlook, some investors are still skeptical about the rally in emerging markets.
Uncertainty surrounds China’s growth outlook, leaving some skeptical about emerging markets’ potential for a rally from current levels. Additionally, swings in the US Treasury market have exacerbated skepticism as traders gauge the Fed’s future path. The lingering ambiguity emphasizes the caution investors should exercise.
According to Sylvia Jablonski, chief investment officer of Defiance ETFs, “Investors should take caution,” as the next few months will be critical in shaping the Fed’s policy stance. Brad Gibson, co-head of Asia-Pacific fixed income at AllianceBernstein, emphasized the importance of assessing the yield differentials between US and emerging-market bonds.
While some remain unsure about emerging markets’ prospects, the bulls believe significant gains are still within reach. Investors are favoring high-yielding bonds and targeting value in BB-rated sovereign notes, despite the associated risks. Several promising opportunities are identified in specific countries and across corporate and government high-yield bonds.
As the bullish outlook on local-currency debt persists, investors are also keeping an eye on nearshoring trends, focusing on emerging markets with anticipated potential for growth.
Key events to watch include third-quarter GDP data from Brazil, developments in Argentina ahead of President-elect Javier Milei’s inauguration, the Reserve Bank of India’s upcoming meeting, and inflation reports from various regions.
–With assistance from Matthew Burgess, Michael Mackenzie, Srinivasan Sivabalan and Aline Oyamada.
