Rate hikes could actually benefit this bond ETF
RPrice increases usually result in higher yields on bonds currently on the market, meaning that prices are moving in the opposite direction.
However, rate increases can be used to support the local currency, indicating the ETF VanEck Vectors Emerging Markets Local Currency Bond (NYSEArca: EMLC) could be a compelling idea for bond investors if central banks in developing economies engage in a race to increase borrowing costs.
Recently, emerging market currencies suffered a jolt amid speculation that the Federal Reserve could hike rates sooner than expected, but as Fran Rodilosso, Head of Fixed Income ETF Portfolio Management at VanEck, points out, there is more to the story.
“Although the market reacted quickly to the realignment of the dot plot and the prospect of a cut, the Fed still does not expect any rate hikes until the end of 2023,” he said in a statement. recent note. “Meanwhile, several emerging market central banks have already started to increase aggressively, and emerging markets as a whole are tilted towards higher rates. “
Examining the upward sensitivity of EMLC rates
The $ 3.5 billion EMLC, which shows a strong 30-day SEC return of 4.71%, holds 341 bonds and has some exposure to developing economies that are already increasing their rates or are expected to do so soon.
“In mid-June, Brazil’s central bank raised its benchmark SELIC rate by 75 basis points to combat rising inflation, bringing it back to pre-pandemic levels with a continued tightening bias », Adds Rodilosso. “Russia also rose this month, and the BRL and RUB were among the best performing currencies so far (as of June 22, 2021). Hungary and the Czech Republic are also expected to continue raising their rates. “
Brazilian and Russian debts combine for over 14% of EMLC’s list, while bonds issued by the Czech Republic and Hungary combine for around 8%, according to issuers’ data. The effective duration of EMLC is 5.14 years, which makes it a medium-term fund and not too vulnerable to rapid changes in long-term rates.
Another factor for EMLC investors to consider is actually the Fed. If expectations of a U.S. rate tightening accelerate, emerging market central banks might take this as a sign that they shouldn’t be beaten to strike, which could cause local currencies to rise.
“In addition to increasing the carry gained on local currency bonds, rate hikes can support local currencies in compensation for tighter financial conditions in the United States. an effort not to fall behind, ”continues Rodilosso.
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