A new global report from investment consultancy bfinance is encouraging Australian institutional investors to revisit Emerging Market Debt (EMD) allocations, with fresh data highlighting stronger risk-adjusted outcomes for AUD-based investors—particularly in Local Currency strategies—and consistent alpha from active management.
The report, Emerging Market Debt: Extracting Potential Amidst Complexity, analyses over a decade of manager performance, allocation trends, and implementation practices. It finds that while volatility and complexity have historically deterred some investors, the asset class continues to offer material advantages for sophisticated institutions, especially those with longer investment horizons and home currencies that align with EM exposures.
“Australian investors are in a structurally better position to benefit from Emerging Market Debt than many of their global peers,” said Frithjof van Zyp, Senior Director, Client Consulting at bfinance Australia. “Our research shows that AUD-based investors have historically seen stronger returns and lower volatility from Local Currency EMD, particularly when exposures are implemented thoughtfully.”
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Key findings for Australian institutional investors:
- Stronger outcomes for AUD-based investors: Over a 15-year period, AUD-based portfolios achieved triple the return and significantly lower volatility from Local Currency EMD than USD-based peers, due to favourable currency correlations and reduced drawdowns.
- Blended strategies consistently outperform: 77% of Blended EMD managers outperformed their benchmarks over the past decade, with these strategies delivering the highest median alpha (0.59% p.a. net of fees) and the greatest consistency across market conditions.
- Alpha driven by active use of credit, currency, and country levers: Managers who actively adjusted hard vs local currency exposure, tilted toward higher-yielding credits, or applied country-level research consistently added value, particularly in risk-on environments.
- Implementation decisions materially shape outcomes: The report stresses the importance of aligning benchmarks, mandate structures, and currency hedging with an investor’s base currency. For AUD-based institutions, off-the-shelf USD-centric strategies may obscure potential returns or introduce avoidable risk.
- Enduring institutional interest: While retail investors have reduced EMD exposure in recent years, institutional allocations remain resilient, with 80% of asset owners planning to maintain or increase exposure. This includes increasing interest from insurance firms, which benefit from the high credit quality and spread premium offered by EM sovereign and corporate debt.
“Blended EMD strategies provide the broadest opportunity set and are particularly well suited to long-term institutional mandates in Australia,” van Zyp added. “However, a nuanced approach to manager selection and benchmark design is essential. The most effective strategies are those tailored to an investor’s specific currency base and portfolio objectives.”
The report also underscores the potential for EMD to serve as a diversifying and yield-enhancing component of modern fixed income portfolios, provided that implementation frameworks are customised, rather than generic.
