Ask the Manager: Eric Fine on the Case for EM Bonds in 2025 and Beyond

In this edition of Ask the Manager, we spoke with Eric Fine, Portfolio Manager and Head of Emerging Markets Bond Strategy at VanEck, about why EM bonds have outpaced Treasuries and the Global Agg, what’s fueling this year’s rally, and how his team is positioning the Emerging Markets Bond ETF.

Why have EM bonds outperformed treasuries and the Global Agg over the past 20 years?

EM bonds have low debt loads, pay higher carry, have no sanctions risk, and nobody owns them.

Why are EM bonds rallying so much this year in particular?

The cool kids all said EM was going to get destroyed by tariffs and uncertainty at the start of 2025, so nobody owned EM, that’s first.

And then there’s the basic game theory around tariff discussions. There is a currency chapter in these trade discussions – to put it crudely, “Don’t devalue after a trade negotiation, maybe even revalue.”  OK, so you’re told the USD has to be stable or down versus your currency.

Now add to that the fact that China and most EMs are already up to their neck in USD (as measured by NIIP or net creditor status). So, you’re net long USD and told it will go down…what do you do?

At a minimum, you hedge your USD risk, which is exactly what happened in the market this year.

Is this going to continue? Why or why not?

The US may be entering stagflation, while China and many EMs have deflation or lower. Econ 101 says that the higher inflation trading partner should see its currency weaken relative to the low inflation partner.

That’s just depreciation, not loss of status, which is an overdone story on the USD in our view. But that looks set to continue.

Who are the biggest winners in the portfolio this year?

Local currency, especially that with beta to CNY, like Brazil, Colombia, but also Korea. There were also idiosyncratic USD-denominated bonds that had very high spreads but very positive fundamental developments, like Ecuador.

There’s a lot of discussion in the markets about the status of the USD and treasuries’ reserve status. What do you think about this?

The USD will not lose its reserve status.

There is simply too much debt in USD, and the system is too established and deep. But it is also proper to predict that the USD will share its status with other deserving currencies such as CNY.

When you saw all those headlines over the years about China, Brazil, India, Saudi, etc. agreeing to trade using each other’s currencies, that’s always the start – no central bank wants a pile of cash, they eventually open lines to buy bonds from the respective trading partner…and they don’t send the world a press release, it happens quietly.

What are the currencies that you think will gain most from the current market and interest rate environment?

Latin America has the highest beta and is a key hunting ground for us. Brazil, Colombia, and Chile are key winners. But Korea and Malaysia can exhibit great defensive and thus simple repricing characteristics. Asian EM bonds will become reserve assets before the Latins, generally speaking (with Mexico being a possible early winner/exception).

Can you walk us through your investment process?

Step 1 – For the VanEck Emerging Markets Bond ETF (EMBX), we use a 100% quantitative process to compare country and company fundamentals to how much their bonds pay. The output of step 1 is a list of the cheapest bonds in EM, whether they are local currency or hard currency, sovereign or corporate.

Step 2 – The world doesn’t work that way always. You have non-systematic risk. This is where we kick things out of the portfolio via three subjective tests to capture non-systematic risks such as policy/politics, technical, and idiosyncratic economic risks. And we document/explain why every month.

That’s it.

We obviously have risk management.

The principle is that the cheaper an issuer, the more we can own, but there are strict limits that both tie us to the benchmark but also give flexibility.

For example, we were a bit famous for being the only EM bond fund that didn’t own Russia or Ukraine prior to the invasion, even though it was very cheap and popular.

How do you balance the exposure between hard, local, and corporate bonds in the VanEck Emerging Markets Bond ETF (EMBX)?

We try not to do that explicitly, as that is a top-down concept, and think about it…which USD cross? We have over a dozen with different fundamentals and mostly higher yields, but each one is its own thing. Everything is bottom-up. We never say we like or don’t like a country or even their “local” or “USD” bonds…it is issuer-by-issuer, tenor by tenor.

The maximum we are allowed is 60% in local, typical for funds like ours. We’ve been maxxed local for the past year because our process told us to. But, thank goodness we had very little local in earlier years, as local had been a dog for a long time.