But equity investors still have concerns about transparency, regulatory and political issues in the emerging world. “There are a lot more potential problems one experiences when one plays in the emerging markets equity space,” Mr. Rosenwald said, although depressed stock valuations do build in some safety for investors, as do good balance sheets and diversification of revenues on the part of some companies based in emerging markets. “The way that emerging markets equities have been beaten recently provides phenomenal opportunity,” he said. Dalton runs a combined $1.3 billion in emerging markets equity and distressed debt strategies.
Emerging markets debt yields “held up very well” in contrast to equity sell-offs during volatile patches in May 2010 (the time of the so-called flash crash in equities) and more recently in August, Brian Coulton, global emerging markets strategist at Legal & General Investment Management, London, noted. “There's been more delinking on the debt side,” as emerging markets debt performance has become more resilient, he said.
In fact, the correlation between the J.P. Morgan Government Bond index-Emerging Markets and the Chicago Board Options Exchange Market Volatility index dropped to -0.1 in August from 0.5 in May 2010, which shows that spikes in market volatility no longer result in declines in emerging markets bond prices, said Issam Strub, research scientist at The Cambridge Strategy (Asset Management) Ltd., London. The VIX measures the implied volatility of S&P 500 index options.
“Emerging markets debt has not been as affected by the (recent) crisis as you might have expected based on previous history,” he said.
Ashmore Investment Management Ltd.'s Jerome Booth, a fierce advocate for emerging markets, said emerging markets debt is now “an acceptable cash substitute.” London-based Ashmore, where Mr. Booth is head of research, manages $310 million of offshore cash for multinational corporations in emerging markets debt, up from less than $5 million at the end of 2010. Ashmore ran another $15.2 billion in cash for pension funds and central banks in emerging markets debt as of June 30, up from $11.4 billion as of Dec. 31.
He believes emerging markets debt will erode the dominance of traditional safe-haven assets such as U.S. Treasuries and German bunds, especially among clients outside those countries. “Why on earth would you buy U.S. Treasuries or European debt? Those are not good investments” because they offer very low yields in currencies expected to depreciate vs. emerging markets currencies, Mr. Booth said.
Other experts doubt pension funds in developed markets would dump government debt in their home currencies because those bonds offer the best liability hedge. Also, while emerging markets debt has started to be seen as less risky than it was before, it's nowhere near the level of U.S. Treasuries or German bunds.
“The Treasury market is still the ultimate safe-haven investment globally,” said Maarten-Jan Bakkum, global emerging markets equity strategist at ING Investment Management, The Hague, Netherlands. And data show that, while emerging markets debt has held steady through rough patches in 2011, it hasn't kept up with U.S. Treasuries: The spread between 10-year Treasury yields and those of the J.P. Morgan EMBI Global Diversified widened by about 100 basis points to 369 basis points as of Sept. 15, according to data provided by Aon Hewitt.