An Overview Of Local Currency Emerging Market Bonds
When it comes to making investments in emerging market bonds, investors have two options. The first one is to invest in the dollar denominated debt issued by developing countries of the world. Simply put, dollar denominated means the bond is issued in terms of the United States dollar; hence US investors do not have to convert the bond into foreign currencies when they buy them. This results in no impact from currency risk on top of the usual volatility that comes with such market bonds.
The second option is all about local currency denominated bonds rather than in US dollars. In such a case, the investors will be required to convert the money into to other currencies prior to buying the bond. The meaning of this is that they will now observe the value of investment affected by the underlying price fluctuations in bonds price and movements in currency.
A reason for this is best illustrated by an example. Suppose an investor purchases a debt worth one million dollars in Brazilian local currency, but first have to convert their dollars to the local currency before doing so. The bond price is exactly the same one year later, but the currency has appreciated by 5% versus the dollar. When the bond is sold by the investor and converted back to US dollars, there is a 5% gain in the investment value, even if the bond price itself was unchanged.
Investors looking to allocate a portion of their portfolio must choose between a local currency or dollar dominated bond fund. There are two benefits of local currency funds. The first one is that they enable investors to diversify their holdings away from the United States dollar. Secondly, it enables investors to gain from the positive impact the stronger economic growth of emerging market nations may have over time on their currencies.
However, currency exposure at the same time adds another volatility layer. This becomes especially important in times when an investor is looking to avoid risk. On such times, it is reasonable to expect local currency funds to underperform when compared to their dollar denominated counterparts. Therefore a dollar based debt may turn out to be the better alternative for an investor in the asset or one with a somewhat lesser tolerance for risks.
Emerging market bonds have undergone evolution from a quite volatile asset class during the early 1990s to a more mature, large segment of todays worldwide financial markets. Emerging countries have improved gradually in terms of the issuing countries financial strength, political stability and the smartness of government fiscal policies.
Although several developing countries struggle with a high debt and budget deficits, numerous developing nations feature more manageable debt levels and sound finances. In addition, the developing nations collectively enjoy stronger economic growth rates when compared to their developed market counterparts.
The outcome is that despite the yield being lesser now than they were in the 1990s, prices are now showing more stability. All in all, the emerging market bonds always have a vulnerability to external shocks that is capable of weakening investors appetite for risk. Hence, the asset class retains its volatility despite the elementary improvements in the motivating countries economies.
The second option is all about local currency denominated bonds rather than in US dollars. In such a case, the investors will be required to convert the money into to other currencies prior to buying the bond. The meaning of this is that they will now observe the value of investment affected by the underlying price fluctuations in bonds price and movements in currency.
A reason for this is best illustrated by an example. Suppose an investor purchases a debt worth one million dollars in Brazilian local currency, but first have to convert their dollars to the local currency before doing so. The bond price is exactly the same one year later, but the currency has appreciated by 5% versus the dollar. When the bond is sold by the investor and converted back to US dollars, there is a 5% gain in the investment value, even if the bond price itself was unchanged.
Investors looking to allocate a portion of their portfolio must choose between a local currency or dollar dominated bond fund. There are two benefits of local currency funds. The first one is that they enable investors to diversify their holdings away from the United States dollar. Secondly, it enables investors to gain from the positive impact the stronger economic growth of emerging market nations may have over time on their currencies.
However, currency exposure at the same time adds another volatility layer. This becomes especially important in times when an investor is looking to avoid risk. On such times, it is reasonable to expect local currency funds to underperform when compared to their dollar denominated counterparts. Therefore a dollar based debt may turn out to be the better alternative for an investor in the asset or one with a somewhat lesser tolerance for risks.
Emerging market bonds have undergone evolution from a quite volatile asset class during the early 1990s to a more mature, large segment of todays worldwide financial markets. Emerging countries have improved gradually in terms of the issuing countries financial strength, political stability and the smartness of government fiscal policies.
Although several developing countries struggle with a high debt and budget deficits, numerous developing nations feature more manageable debt levels and sound finances. In addition, the developing nations collectively enjoy stronger economic growth rates when compared to their developed market counterparts.
The outcome is that despite the yield being lesser now than they were in the 1990s, prices are now showing more stability. All in all, the emerging market bonds always have a vulnerability to external shocks that is capable of weakening investors appetite for risk. Hence, the asset class retains its volatility despite the elementary improvements in the motivating countries economies.
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