Feature – Emerging market debt


Emerging Markets Bond Index, while corporate debt spreads shot up by 60 basis points to 297 against US treasuries.


A fundamental story


The attractions of emerging market bonds could be described as the stuff of investor’s dreams. Chetan Ghosh, chief invest- ment officer at Centrica Pension Schemes, says that the invest- ment case for such debt is a simple story: high returns from countries with improving fundamentals and outlooks that makes others around the world envious.


Indeed, the IMF states that developing nations account for 60% of global GDP today, double the level in 1980. Before the Coronavirus crisis, emerging markets were projected to grow by 5.2% this year, up from 4.8% in 2019, while developed mar- ket growth was estimated to have fallen to 3.3% from 3.5% over the same period, according to the IMF. “You are typically looking at a lot of investment grade-type countries able to obtain yields at around the 6% level on aver- age,” Ghosh says. “If the expectation is that these countries de- velop, grow and make it to developed status, their currencies should appreciate over time and that will give you an extra re- turn kicker as well.” Surrey Pension Fund is a scheme which does have emerging market bonds in its multi-asset credit portfolio. Neil Mason, the scheme’s chief executive, says has seen the growth that emerging debt brings to a portfolio. “It provides al- pha, some additional yield in our credit portfolio,” he adds. The scheme’s exposure to emerging market debt has been sta- ble in the past year and it is possible that it will increase its weighting


over the coming year, Mason told portfolio


institutional. Centrica’s pension schemes also have exposure to emerging market bonds, with a direct allocation of about 7% to 8%, all of which is in local currency. The allocations could be larger. Ghosh adds that the schemes have some unconstrained bond managers that might also have mild allocations of the asset class within their wider portfolio and puts Centrica’s total allo- cation at around 8% to 9%. “We are in the local currency universe and so if you think about the big participants in that you have players like Brazil, Russia, Chile, Mexico and South Africa,” Ghosh explains, adding: “It’s going to be predominately countries that are dominant in the underlying index. “You have much less of India and China than a lay person would intuitively associate with an emerging market mandate because their local market issuance isn’t as developed internal- ly,” he adds. Centrica’s asset allocation to emerging market debt has in- creased slightly in recent years for two reasons. First, because it was standing out as one of the more attractive asset classes in


34 | portfolio institutional April 2020 | issue 92


When people think of emerging markets they automatically tend to think of the headlines on Argentina or Lebanon, the latest on Turkey and Erdogan but what they don’t realise is that it also encompasses countries like Peru, Mexico, Qatar and South Korea. Uday Patnaik, Legal & General Investment Management


terms of expected returns, particularly compared with an equi- ty market that was on an ever-increasing strong run, thus push- ing down the expected returns from equities. The other reason was because of the de-risking in its portfolio by selling its equity portfolio at the end of last year. The pro- ceeds went into income-generating assets, thereby giving all its fixed income areas something of an upweighting as a result. But Ghosh thinks it unlikely that the scheme will significantly increase its exposure to emerging market debt, though it is mon- itoring opportunities arising as a result of the current sell off.


Missing in action Yet British pension schemes’ attitudes to developing nation debt seems largely to be one of disinterest, with a good number failing to own any such bonds and thereby missing out on its benefits. Patnaik recalls a conference for pension fund investors that he spoke at last year on the impact emerging market debt could have for pension portfolios. “Virtually nobody in the room had any emerging market exposure,” he said. One reason for the under-utilisation of such bonds in the pen- sion fund universe is that it calls to mind two distinct images. On one side of the emerging debt coin is an alluring picture of opportunity and growth, but on the reverse side is an image of rackety states descending into civil disorder and defaulting on their loans. Emerging market debt’s image problem intensified in early March when Lebanon announced it would default on a $1.2bn


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