Emerging Market Bonds Rally as Risk Premiums Hit 13-Year Lows

Global investor confidence in Emerging Market (EM) debt has surged to levels not seen since 2013, driven by a “Goldilocks” scenario of improving local fundamentals and anticipation of global monetary easing.

Spreads Compress Significantly

The risk premium on EM sovereign dollar bonds relative to US Treasuries has compressed to approximately 2.5 percentage points, the lowest since January 2013. According to JPMorgan data, this spread has tightened by nearly 500 basis points over the last five years.

Market participants attribute this rally to a structural improvement in EM economies. Unlike developed nations which are running deficits, many developing economies have achieved current account surpluses. Furthermore, GDP growth in developing nations is projected to outpace advanced economies by at least 2.4 percentage points this year.

'Technicals Favor Risk'

Anders Faergemann, head of EM sovereign debt at PineBridge, noted, “EM fundamentals are generally strong... technical factors favor risk, offsetting the historically narrow spreads.”

The rally is further evidenced by the collapse in default protection costs. The CDS (Credit Default Swap) premium for emerging markets dropped to 124 basis points at the start of the year, an eight-year low.

While the narrow spreads leave little room for error, fund managers argue that as long as the Federal Reserve eventually cuts rates, the “search for yield” will continue to support inflows into the asset class, making EM currencies and bonds a favored trade for 2026.