Stockholm (NordSIP) – At a time of global turmoil, with inflation eroding economic growth and returns in advanced economies, emerging markets remain an appealing investment for sustainable investors willing to trade returns for the added volatility of this market. However, Louis Leutenegger, Portfolio Manager at impact investor BlueOrchard, challenges this idea, noting that by some measures, EM corporate debt has provided higher returns while remaining less volatile than its US counterpart.
Why Invest in EMs?
The main argument for investing in emerging market (EM) economies is that their developing economic status means that there are often higher levels of growth to reach out for. According to the April 2023 IMF World Economic Outlook (WEO) report, EM and Developing Economies are set to grow at a 4% annual rate in 2023 and 2024, considerably more than advanced economies projected 1.2% and 1.3% growth during the same years.
“According the IMF, Emerging markets have grown on average by 4.1% from 2013-2022 which compares to 1.8% for Advanced Economies. As these economies continue to grow and develop, their companies are better positioned to meet their debt obligations,” Leutenegger says.
Is it Really that Risky?
According to Leutenegger, the corporate debt market provides a channel of exposure to EM growth that appears to have experienced less volatility than its US alternative. “While EM Corporate debt has experienced some periods of volatility, the overall trend shows that it has been less volatile than the US Corporate index over the past few years. In fact, the volatility of the J.P. Morgan Corporate EMBI Broad Diversified Composite Index (EM Corporates) over the past 10 and 20-years as of end April 2023 was at 4.9%, and 5.4%, respectively. While that of the Bloomberg Barclays US Corporate Index (US Corporates) was at 6.7% and 6.1%,” Leutenegger explains.
Leutenegger argues that improved credit ratings and less duration has allowed EM corporate debt to be less volatile than its US counterparts.
“A study from J.P. Morgan shows that Global Emerging Market indebtedness has improved with net leverage decreasing from 2.1x in 2016 to 1.1x as of end-2022. (…) EM Corporates historically had a lower duration than the US Corporates. As of end-April-2023 it stands at 4.3 years which compares to 7.2 years for the US Corporate Index, according to Bloomberg,” Leutenegger adds.
The Sustainability Angle
For sustainable investors, EMs offer the opportunity to allocate funds to projects that will have the most impact. On the climate front, EMs such as Brazil, Sub-Saharan Africa or South-East Asian countries are home to some of the planet’s richest sources of biodiversity, where conservation efforts will pay out most. Poverty relief also allows investors to facilitate a juster form of economic development. Sharing good investment practices, on the other hand, should improve governance and ensure better and more reliable returns.
“With an increased interest in fixed income strategies, apart from adding portfolio characteristics, EM corporate debt provides an opportunity as investor to be impactful by financing a number of sustainability objectives addressing climate and inclusion, that are high on the agenda of many Nordic investors,” Magnus Weikert (Pictured) Vice President responsible for the distribution of BlueOrchard’s impact investment products in the Nordic region, tells NordSIP.
“The increased interest in fixed income alongside sustainability and climate objectives encourage Nordic investors to consider emerging markets fixed income strategies, however analysing and engaging with emerging markets corporate issuers in a consistent manner in relation ESG risks and evaluate and report on the impact can be resource intensive,” Weikert adds.
The Blue Orchard Way
“While we are currently exploring the possibility of incorporating the CEMBI as a reference index, it is important to note that the CEMBI does not take into account any ESG or Impact metrics, whereas BlueOrchard places a strong emphasis on ESG factors and impact considerations, which are core to our investment process,” Leutenegger explains.
“ESG analysis is part of the investible universe creation for BlueOrchard, along with impact analysis. The ESG assessment is used to analyse issuers’ sustainability risk, looking at policies, environmental, social or governance indicators, events or conditions that could cause an actual or a potential material negative effect on the value of the investment. The SFDR principal adverse impact indicators are also included in the analysis and collected whenever available. Overall, the ESG analysis ensures that the company meets certain minimum safeguards standards, mitigating sustainability risk of the investment. Each issuer and bond needs to pass the assessment of BlueOrchard’s impact framework,” Leutenegger concludes.
