An ETF to Ponder as History Supports Emerging Market Bonds

f fixed income investors like using history as a gauge for future performance, they may want to consider allocating to emerging market (EM) bonds. It’s not just other bonds in the debt market space where EM shines, but also versus stocks.

A Breaking News report noted the performance of EM bonds for the past 30 years, identifying their outperformance that dates back to March 1, 1994.

“Better stocks than bonds,” the report said. “But the 30-year returns tell a different story. Bonds have triumphed over stocks in the emerging markets, with the Bloomberg Emerging Markets USD Aggregate Index outperforming the MSCI Emerging Markets Index by a significant margin.”

The report also identified that a stronger dollar doesn’t impact EM bonds the way they do versus stocks. Because the performance of local EM currencies can be tied to their performance, the strength or weakness of the greenback can have a profound effect on EM assets. However, as the report pointed out, it affects stocks much more than bonds. With rates hikes that have subsequently fed into a stronger dollar, the expectation of cuts could pave the way for strength in EM bonds.

“The strength of the US dollar, a major denomination for emerging-markets bonds, has protected these investments against currency fluctuations that adversely affected stock valuations,” the report confirmed. It also said that “the IMF’s assessment that a strong dollar slows the growth of emerging-markets economies by reducing trade volumes and squeezing credit has further impacted stock performances.”

Where to Get Emerging Market Bond Exposure?

An all-encompassing option for broad exposure to EM debt includes the Vanguard Emerging Markets Government Bond ETF (VWOB). The fund is deeply diversified, offering over 700 bond holdings with an average duration of just over seven years. As of February 28, the fund’s 30-day SEC yield is 6.81%, which should appeal to yield seekers.

VWOB seeks to track the performance of the Bloomberg USD Emerging Markets Government RIC Capped Index. The index specifically measures the investment return of U.S.-dollar-denominated bonds issued by governments and government-related issuers in EM countries.

The fund’s distribution by credit quality shows that about 44% of the fund is allocated to debt holdings that are below BBB. That said, fixed income investors will have to be comfortable with assuming a certain level of credit risk in order to extract more yield in their bond portfolios. However, that’s typically standard fare when getting exposure to EM bonds versus debt in developed countries.

The risk averse who want international debt while maintaining U.S. bond exposure should consider the Vanguard Total World Bond ETF (BNDW). The fund seeks to track the performance of the Bloomberg Global Aggregate Float Adjusted Composite Index, which measures the investment return of investment-grade U.S. bonds and investment-grade non-U.S.-dollar-denominated bonds.