Emerging Markets Debt under Trump 2.0
Following Donald Trump’s decisive victory in US elections last week, market participants are re-evaluating how to invest under a second Trump administration. One sector in focus is emerging market debt (EMD) given vulnerabilities to potential new policies around fiscal deficits, tariffs, and immigration. While favoring US assets may appear more congruent with Trump’s policy rhetoric, we caution investors against increasing concentration and home bias in portfolios and overlooking the value and diversification offered by EMD.
1. Different market reaction from 2016, so far
We are cautious about strong conclusions only one week after elections, but market reactions so far have been milder than feared (Table 1). We highlight two potential explanations:
a. Less of a surprise – both the probability of a Trump win/Republican sweep and his policy rhetoric were better understood and at least partially priced in before elections.
b. EMs are more resilient – compared with 2016, emerging markets generally have lower external deficits, more domestic ownership of debt, and higher interest rates. Since the pandemic, fiscal consolidation progressed and we are now seeing more sovereign rating upgrades than downgrades.
2. Policy bark vs bite
A walk down memory lane highlights some vast differences in Trump’s policy promises versus realities:
a. Deficits – higher US fiscal deficits contributed to higher US core rates and lower EMD returns in 2022 and 2023 – Biden years. While fiscal policy remains key, the timing and impact on fixed income assets remains highly uncertain.
b. Tariffs – tariffs are a key cornerstone of Trump policy and some argue could be deployed more quickly and with greater impact this time. Yet, the global economy remains highly integrated. Global trade growth has plateaued, but volumes are still near historical highs1. The average US tariff rate on all imports has risen but remains historically low, below 3%2. China has lost significant market share of US imports, but Mexico, Southeast Asia, Eastern Europe, and other emerging markets have gained. We do not expect a collapse of global trade under Trump 2.0 and heightened political focus on inflation may result in more subdued policies than feared.
c. Immigration – deportations or repatriation of unauthorized immigrants under Trump was lower than those under Obama and Biden (depending on accounting of pandemic policies)3. Remittances to emerging markets have grown under all administrations with both cyclical and structural tailwinds, including a strong US labor market and more efficient/lower cost digital transactions.
While higher policy uncertainty is generally negative for markets, investors should also be cautious about overreacting to political rhetoric.
3. Stay the course
Long-term investors can benefit from staying invested in a diversified portfolio. When we look at historical returns for emerging market assets (Charts 1 and 2), we see that fundamentals “trump” politics. Global business cycles and structural changes in emerging markets are stronger explanations for EMD performance than the political shape of US administrations.