EM debt default will be ‘below high yield’ in 2021

28 March 2021

Emerging market bond defaults are predicted to be lower than in high yield markets in 2021, according to AXA Investment Managers, with ramp-ups in vaccination programmes helping their economies to join the recovery.  

The fund manager said that during the global pandemic of 2020, defaults in emerging markets remained lower than the high yield universe, much of which is issued by US companies.

The final months of 2020 also saw hefty inflows into emerging market bonds as the recovery globally began, with investors once again hunting for attractive yields as confidence returned to markets.

This year vaccination programmes look set to be ramped up across many emerging market countries, and combined with some prudent debt liability strategies by emerging market governments, the outlook for defaults is positive once again, according to the managers of the AXA WF Global Emerging Markets Bonds fund.

“Our default cycle is going to be below high yield again this year,” said Sailesh Lad, manager of the fund and Head of Active Emerging Markets Fixed Income.

“Countries front-loaded a lot of supply and have completed liability management programmes, so the fundamentals remain strong, especially after the high inflows we have seen in the final months of 2020.

“On top of that, if mobility is able to pick up in emerging markets as the rate of vaccination increases, this could potentially provide a big boost to market sentiment that could continue to drive flows towards the asset class. This could elicit further spread tightening in the first half.”

While outflows climbed initially last year from emerging market debt because of the pandemic, they reversed significantly post the development of vaccines, indicating a significant swing in sentiment.

Looking forward, with the added benefit of diversification at both a country and company level, Lad and his co-manager Mikhail Volodchenko expect the asset class to remain sought after.

“With diversification at both a country and company level, and the fact that we’ve seen a big shift in the makeup of the emerging market debt landscape towards local currency bonds, emerging markets offer active investors real diversification benefits,” Volodchenko said.

“80% of the universe is now made up of local currency denominated debt, a big shift and one that empowers many regions’ own central banks, and that means the opportunities to both generate returns and avoid problem areas is that much wider than other asset fixed income asset classes.”

So far this year spreads have widened from December lows amid increased volatility in most asset classes, but Lad said this trend did not seem likely to continue given comments from the US central bank around future rate rises.

“The Fed wants to keep rates as low as possible, and markets are not expecting hikes, so if they stay near zero, as we expect them to, we see no reason for further widening of spreads in emerging markets,” he said.

Professional Paraplanner