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A Green Light on Emerging Market Bonds

It’s been a rocky month for the markets, with the S&P 500 declining for the past three consecutive weeks. But emerging markets have bucked the trend: as of last week, the J.P. Morgan Emerging Market Index Global is up 1.2% for the month.

Is the tide shifting for emerging market debt? Typically, when investors lose confidence in the markets, emerging markets are among the first to suffer. But the debt of emerging economies has held up amid the recent volatility.

Last week investor bullish sentiment declined to 26.89%, according to the American Association of Individual Investors (the first time positive sentiment has fallen below 30% since last August when the Fed announced a second round of stimulus). And new capital inflows into emerging market bonds amounted to $898 million in the week ended May 11th (according to bond fund tracker EPFP). And the spread on investment grade emerging market debt versus Treasuries is tightening (meaning emerging market debt default risk has decreased compared to U.S. government debt).

This shift in sentiment is understandable. After all, the world’s two largest economies are both laden with debt that overwhelms growth, and have been stamped with a negative outlook.

Putting all of that aside, emerging market bonds recently signaled a buy (after indicators signaled a sell following political uprisings that erupted in late January). And based on relative strength within a diversified bond portfolio, emerging market debt (both dollar and local currency denominated) has performed very well.

Looking at a proxy for emerging market debt, iShares JPMorgan USD Emerging Markets Bond Fund (EMB), while we saw a recent buy signal, the fund has gotten a little hot lately. A correction is possible, though shares would hit a support level around $106.50; if that level is broken another support would be found at $105.80.

The bottom line: this fund is in a positive, long-term uptrend, and offers broad exposure to emerging market debt (with top holdings in Russia, Brazil, Mexico, the Philippines and Turkey).

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