June 2025 – Local currency emerging market (EM) bonds had another excellent month, outperforming most other fixed income asset classes. Thanks to returned capital inflows, strong fundamentals and attractive real interest rates, there seems to be even more in store. So says Giulia Pellegrini, Lead Portfolio Manager, Emerging Market Debt at Allianz Global Investors.
Emerging-market bonds again showed their resilience, defying concerns over trade tariffs, budgets and geopolitical tensions. Local currency debt in particular performed strongly, with a return of almost 10% since the beginning of the year. This is significantly higher than US government bond yields, which hover around 2.5%.
Attractive yields and weaker dollar
The excellent performance was largely due to favourable currency effects, complemented by interest rate developments. The image of “US exceptionalism”, which dominated markets early this year, has faded. Concerns about the US economy and policy have put pressure on the dollar, leading investors to broaden their outlook and rediscover opportunities in emerging markets.
EM countries not only offer higher nominal interest rates – as in Brazil (14%) and South Africa (10.5%) – but also a comfortable real interest rate buffer. This is the result of bold and proactive policies by central banks in these countries, a sharp contrast to the situation in developed markets.
A mature and diverse asset class
The local EM bond market has matured over the past few decades. The number of countries in the leading index has grown from 11 to 19 and the weight has shifted from high-yielding countries to more stable markets such as China and India.
Another crucial development is the emergence of a strong local investor base. Institutional players such as pension funds and insurers are increasingly acting as an anchor for their home markets in times of global turmoil. This has increased the focus on local macroeconomic developments, diversifying the asset class as a whole.
Investors return
This solid foundation, combined with attractive yields, has convinced investors. Since mid-April, capital outflows from local EM bond funds have fully reversed into steady inflows totalling $1.3 billion.
Of course, risks remain, such as the flaring tensions between Israel and Iran. Yet investors seem to be looking past this conflict for now, unless the situation escalates significantly. Indeed, ongoing long-term concerns about the US budget may actually encourage further diversification into emerging markets. Although yields were already strong, we still see opportunities in specific markets, such as Brazilian and South African bonds and currencies like the Egyptian pound and Turkish lira. Frontier markets, such as Nigeria, are also back on the radar.
