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The decision by the US Federal Reserve (the Fed) to start cutting interest rates is positive news for many fixed income investors, especially those engaging with emerging market debt (EMD). While EMD has often been viewed as a “risk on” investment, returns have generally been positive for the six-month period following a Fed rate cut for both emerging market foreign exchange (EMFX) and emerging market credit. Many investors expect a soft landing over the next six months—an outcome that has historically led to strong positive returns from EMD, as spreads typically compress given buoyant market sentiment. However, EMD returns have also been positive in a recessionary, harder landing scenario, driven by declining rates.
While geopolitical uncertainty and idiosyncratic risks may cause further volatility in the short term, structural improvements since the 1990s have made emerging markets fundamentally stronger, which is reflected in higher credit ratings. For investors new to EMD, all-in yields remain attractive, while the asset class hasn’t experienced the same extent of spread compression as developed markets. EMD sovereigns currently yield around 7.5%, which is 1.7 percentage points above the 10-year median yield. Meanwhile, EMD corporates yield about 0.8 percentage points more than the 10-year median, at around 6.3%.
Head of Emerging Market Debt,
J.P. Morgan Asset Management
Investment specialist,
Emerging Market Debt
EMD returns 24 weeks after Fed Cut
Source: Bloomberg, J.P. Morgan. As of 31 August 2024. Soft Landing Cuts = ‘95, ‘98, ’19. Recession Cuts = ’01, ’07. Opinions, estimates, forecasts, projections and statements of financial market trends that are based on current market conditions constitute our judgment and are subject to change without notice. There can be no guarantee they will be met. Past performance is not a reliable indicator of current and future results
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Inflation and labour markets have remained stubborn for some time, causing many major central banks to delay the start of their monetary easing cycles. However, there are signs that these key measures are beginning to ease, which paves the way for fixed income markets to deliver attractive risk-adjusted returns. We believe a strategy with an active approach to investing across the global fixed income spectrum is best placed to capitalise on the opportunities that could emerge as the tide turns for the asset class.
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