EM corporates on solid footing

  • 18 May 2018

    Impressive market size

    The emerging market (EM) corporate debt market has been growing rapidly over the last decade. Its market size increased nearly 4-fold to over $2 trillion, eclipsing the US high yield and EM USD sovereign debt markets along the way. This growth has brought increased diversification and a steady supply of new opportunities for investors.

    Not as risky as most think

    A long-standing perception is that EM is categorically riskier than developed markets (DM). The reality is that historical default rates for EM corporates is commensurate with (and often lower than) default rates among US or European corporates.

    Contained default rates

     

    Source: BofA Merrill Lynch High Yield Default Rates, as of March 2018.

    Additionally, many investors think their capital is at significantly greater risk because the countries home to these corporates are much more vulnerable. Again, this is not always the case. Take Portugal and Singapore as examples. Portugal, a developed market, has a population of 10 million with a $200 billion GDP. Unemployment is 8% and public debt to GDP is about 125%. The country suffered badly during Euro crisis, and while its fiscal condition has slowly improved, its fundamentals are still lagging other European countries. Portugal is rated at Ba1 by Moody’s.

    In contrast, Singapore, a country whose companies are part of the market standard EM corporate index, has a smaller population (5 million) but larger GDP (~$300 billion). Further, unemployment is only about 2% in Singapore, and its debt burden is lower at ~110% of GDP. Based on its strong fundamentals, the country enjoys an AAA rating. Firms operating in Singapore have a more solid backdrop.

    Resilient amid rising rates and stronger USD

    Despite concerns over rising US interest rates and dollar strength, many EM companies exhibit resilience. From a macro perspective, many EM companies (and the countries in which they operate) are now in much better shape than they were in recent years. These improvements position them to better withstand the market volatility arising from rising US interest rates or other sources.

    A stronger US dollar, in particular, is beneficial to most EM exporters. For example, Suzano Papel e Celulose S.A., a Brazilian paper and pulp company, receives dollar revenues and pays 85% of its costs in local currency (Brazilian real). If the local currency depreciates, its profits directly increase. Also, most EM corporate bond issuers hedge their interest and principal payments to their local currency in any case, limiting currency risk associated with their outstanding debt.

    Why Fidelity?

    Fidelity’s dedicated EM team is comprised of investment professionals with complementary skills set, which facilitate informed investment decisions. This together with the holistic view from the equity team helps us identify more bottom-up investment opportunities in this fast growing but under-researched EM space.

    Note: Reference in this material to specific securities is included for illustration only and should not be construed as a recommendation to buy or sell the same. Performance of the security is not a representation of the Fund’s performance. The Fund’s past holdings are not indicative of existing and future holdings.