Investment focus: Is Emerging Market Debt Worth the Risk?
Written by Boring Money
23 April, 1970
Emerging market debt has long been seen as the risky fringe of a fixed income portfolio. But as developed market governments rack up debt and struggle with inflation, the tables may be turning. Several emerging economies are now running tighter fiscal policy, growing faster and paying down debt more reliably than their developed counterparts, yet investors still receive a significant income premium for lending to them. Here's what the asset class offers, what the risks still are, and whether it deserves a place in your portfolio.
Traditionally, developing economies have been seen as a riskier option for investors. Emerging markets
have had less predictable fiscal and monetary policy, more political disruption, and have looked less likely to repay their debts. Today, those criticisms could be levied at developed markets, while emerging markets have been following more orthodox policies. Yet investors still receive a premium for taking a risk on emerging markets.How big is the emerging market debt market?
Emerging market debt is a relatively new asset class. It came to fruition in the early 1990s, led by four main issuers - Argentina, Brazil, Mexico, and Russia. Initially, most of the issuance was in Dollars, with emerging market currencies often too weak and unpredictable to attract international buyers. However, the asset class has evolved. The widely-used index GBI-EM Global Diversified includes 20 countries, but more than 70 countries now issue debt. The local currency debt market has grown to become the dominant segment, at around $14 trillion in size[1].
It is not just emerging market governments issuing debt; emerging market companies have also turned to debt markets to raise capital. According to UBS, this market is now around $2.5 trillion in size. It is worth noting that just over half of this debt is rated investment grade. As a whole, emerging market debt is now a huge part of the overall debt market: in aggregate, it is around the same size as the US treasury market[2].
For investors, emerging market debt still commands an income premium over developed market debt. For example, 10 year government bond yields for Brazil, Mexico, South Africa, and India, respectively, are 14%, 9.4%, 8.5% and 7%. This compares to 4.9% for the UK (the highest major developed market) and 4.5% for the US[3]. Investors can also make gains if the currency appreciates.
Are emerging markets still as risky as their reputation suggests?
Increasingly, investors have started to wonder whether that risk premium is justified, given the relative policy positions of emerging market countries and developed market countries. Tadashi Sueyoshi, portfolio manager, emerging markets local debt at HSBC, gives the example of the recent inflation crisis:
A key shift in this cycle has been the behaviour of EM central banks. Historically, they were often perceived as lagging their developed markets peers - slow to respond to inflation and quick to ease policy at the expense of currency and price stability.
However, in the most recent cycle, many EM central banks reacted earlier and more aggressively than the Federal Reserve or the European Central Bank when inflation surged. Policy rates in several EM economies were raised decisively to anchor inflation expectations, in some cases into double digits. As a result, inflation in EM economies normalized more rapidly.
EM economies have less debt in aggregate than their developed counterparts. M&G cites IMF data, which shows that the average debt-to-GDP ratio of emerging market and middle income economies is 75%, while that of advanced economies is 110%. “Stable debt levels create a buffer to absorb global shocks,” it says[4].
Many EM countries have strengthened their institutional and policy frameworks, granting greater independence to central banks, adopting explicit inflation targeting regimes, and introducing more disciplined fiscal and debt management practices. These changes have helped anchor inflation expectations, reduced the incidence of extreme inflation episodes, and increased investor confidence in local bond markets and currencies.
How has emerging market debt performed recently?
Emerging markets are also significantly outpacing developed markets on growth, which makes servicing their debts easier. While advanced economies are set to grow just 1.8% in 2026, emerging market economies are likely to deliver more than double that, at 3.9%[5].
There are still clear risks for some emerging markets: the energy crisis in Iran, for example, has hit some emerging markets that rely on external energy supplies. India, in particular, has been weak, and this has hurt its bonds and currency. However, it is worth noting that the movement in its 10 year government bond yield in response to the crisis is less severe than that of UK gilts.
In the recent crisis, government and high quality corporate bonds have done little to protect investor capital. In the IA Global government bond sector, the average fund is down 0.8% for the year to date and in the IA Sterling corporate bond sector the average fund is down 0.5%. Hard currency EM bond funds, by contrast, are up 1% on average, and local currency EM bond funds are up 1.1%.
Nevertheless, RBC Global Asset Management says there has been significant dispersion between regions: “Commodity exporters, particularly those in Latin America, are currently better positioned due to structurally elevated oil prices. Conversely, Asian importers face the dual challenge of surging energy costs and decelerating economic growth. Although EM credit spreads remain relatively tight, the current all-in yields are elevated compared to pre-war levels, offering a buffer for total returns.”
The group says that if the geopolitical stalemate persists, there could be a broader repricing of growth and inflation assumptions, but in the meantime local currencies have remained resilient despite the inflationary backdrop
In the longer-term, EM bonds also showed resilience during the global bond and equity sell-off in 2022. Funds in the hard currency and local sectors fell 5.1% and 8.1% respectively. Over three years, local bonds have risen 15.8%, hard currency up 21.5%. The average IA Global Government Bond fund was up just 1.9%[6].
How can investors access emerging market debt?
A key selling point for any investor remains the income available. Many of the major emerging market debt funds have yields of over 6% and the highest yielding funds offer over 10%.
Investment areas
There are a range of emerging market debt ETFs. These will often have lower expense ratios than their active fund equivalents. For example, the Vanguard Emerging Markets Government Bond ETF has an expense ratio of below 1%. These passive options will be based on indices such as the Bloomberg US Aggregate Bond Index or the J.P. Morgan EMBI Emerging Markets Bond Index, and cover both US and hard currency-denominated bonds and local currency options.
The drawback of passive options is that they will often have their highest weighting to the most indebted countries. For example, in the Vanguard Emerging Markets Government Bond ETF has its largest weightings in Argentina[7]. This can raise the risks for investors.
Active emerging market debt funds are another option. Pimco, Ninety One, Barings, JP Morgan, M&G and Capital Group all have strong funds in the sector. These will select individual emerging market debt securities, based on the fund manager’s understanding of the nuances of the specific countries and their economic outlook.
Investors will need to decide whether they want to target local currency debt or hard currency bonds. Local currency can be more volatile, but may also give the potential for higher returns over time.
What is the outlook for emerging market debt?
Sueyoshi believes the higher income available on emerging market debt is still important for investors, saying it gives, “a margin of safety, compensating investors for taking on credit, liquidity, and political risk, and offering a cushion against adverse shocks in global rates or risk sentiment.”
He believes there is value in local currency debt. “After a decade of US dollar strength, many EM currencies are relatively inexpensive. Although we saw the US dollar begin to weaken last year, it is still well off historical lows and continued weakening could be supportive for EM currencies. Against this backdrop, external balances have improved in many EM countries, as can be seen with shrinking current account deficits and higher levels of foreign exchange reserves.”
Grant Webster, co-portfolio manager for the Ninety-One Emerging Market Blended Debt fund agrees, saying, “longer-term global economic momentum is shifting away from developed markets, with emerging markets constituting a larger share of economic activity.” He believes that emerging market debt can offer diversification from traditional bond and equity portfolios.
It says the sector also offers a real breadth of opportunities: “The behaviour of local currency debt markets reflects differing interest rate regimes, divergent economic cycles and currency fluctuations. Countries within this market behave quite distinctively and broadly fall into one of three cohorts: high-quality Asia, Central and Eastern Europe, and more cyclical markets.”
Nevertheless, there are short term risks. Charles Gélinet, manager on the J Stern & Co Emerging Market Debt Stars fund says: “The situation in the Middle East remains fluid and there is a lot of uncertainty. Focus remains on the impact the conflict will have on inflation and global growth. The longer it goes on, the greater the risk of stagflation. We note that EM corporate fundamentals are in good shape and that any meaningful widening in credit spreads could present a buying opportunity.”
The emerging market debt sector is often overlooked by investors, despite its income and growth credentials. It could represent a diversifying alternative to traditional fixed income options, particularly as emerging markets become a more important part of the global economy.
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[1] Ashmore Group
[2] UBS, September 2025
[4] M&G Investments, August 2025
[5] IMF, April 2026
[6] Trustnet
[7] Vanguard
