“Companies across emerging market regions have improved their balance sheets in recent years, reducing leverage and increasing interest cover,” Donald Amstad, COO for distribution & head of investment specialists in Asia-Pacific at Aberdeen Standard Investments (ASI) told FSA in an interview.
Their leverage is the lowest since 2012 and interest coverage is the most since 2013, according to Bloomberg data. In contrast, US corporate net leverage is at 15-year highs, with the average net debt-to-ebitda ratio at 2.5 times.
At the same time, the yield spread difference between emerging market corporate bonds and US corporate issues is the widest since 2014. For instance, the yield of the JPM CEMBI BD index for BB-rated bonds is around 150bps higher than BB- rated bonds in the Bloomberg Barclays Corporate Bond Index, compared with an average yield premium of less than 100bps over the past decade.
“The relative spread differential is at historically attractive levels across the credit curve,” said Amstad.
Improving emerging market corporate balance sheets
Source: Aberdeen Standard Investments
Amstad works with Siddharth Dahiya, who manages the $726m Aberdeen Standard Emerging Markets Corporate Bond Fund. It has a three-year cumulative return of 16.26%, in line with its JPM Corporate EMBI Broad Diversified Composite index benchmark, and outperforming the sector average 0f 7.87%.
Annualised volatility is a subdued 2.73%, a little higher than the benchmark (2.23%), but much less than the average volatility of the funds in its category (5.05%).
The asset class has performed well compared with other fixed income sectors. The JPM CEMBI BD’s 16.41% return over three years is higher than the JP Morgan EMBI Global Index of emerging market sovereign bonds (13.71%), and also the 5.84% return posted by the Bloomberg Barclays Global Aggregate Index, which is the flagship measure of global investment grade debt, according to FE Analytics data.
Indeed, perhaps the strongest case for looking at opportunities in emerging market corporate bonds is the lack of opportunities elsewhere.
“Developed market government bond yields paying negative yields have now surpassed $16trn in value, while investors’ flight to quality in this uncertain economic and political environment has led to a compression of investment grade spreads,” he said.
Bond selection
The ASI fund’s portfolio is built from individual stock selection, rather than sector or country allocations. Nevertheless, there is a tilt towards Brazil and Mexico, producing a six percentage point overweight to Latin America, and a lack of conviction towards Hong Kong, South Korea and Taiwan that means the fund is underweight Asia by 17 percentage points, according to its factsheet.
Other fixed income fund managers are also turning more positive on emerging market bonds in general, with some, including Western Asset Management, highlighting the appeal of Asian bonds during a period of falling US interest rates, lower regional inflation and political stability in most Asian countries.
T Rowe Price also believes Asian credit offers an attractive risk-adjusted return profile compared with other fixed income categories.
“We do find value in many China bonds – including property issues – both because of their improved balance sheets and their attractive spreads,” said Amstad.
However, the ASI fund finds more value among corporate bonds in other regions, including companies in the less liquid and more risky frontier markets such as El Salvador and Georgia.
As FSA previously reported, ASI plans to launched a fixed maturity product that will invest in emerging market corporate bonds. The four-year fund is expected to be sold to Hong Kong and Singapore professional investors in October, with an initial minimum size requirement of $100m.
Amstad could not comment further on the product or its likely portfolio composition.
Aberdeen Standard Emerging Markets Corporate Bond Fund vs benchmark and sector average
