Emerging Markets Bond ETFs Still Viable Income Destinations

Emerging markets debt exchange traded funds were supposed to be vulnerable in the face of the Federal Reserve's first interest rate hike of 2016. With the Fed aiming to raise rates as many as three times next year, this once hot income-generating asset class could be all the more vulnerable in the eyes of some investors.

That doesn't mean income investors should eschew ETFs, such as the SPDR DoubleLine Emerging Markets Fixed Income ETF (BATS: EMTL).

While the same can't be said of all new ETFs, EMTL's debut was well timed. The ETF came to market during an environment where investors are embracing emerging markets assets for the first time in several years and when anemic developed world bond yields are increasing the allure of emerging markets debt. Actually, emerging markets debt is often the more desirable destination than equities.

In fact, emerging markets bonds have a lengthy history (the past decade) of offering vastly superior returns relative to emerging equities.

EMD LC has traditionally been a volatile asset class, driven primarily by currency fluctuations, and EMD currencies have weakened steadily over the last number of years. Following the sell-off, EMD currencies provide a more attractive entry point for long-term investors, said State Street in a recent note.

EMTL holds 51 bonds, down from 54 earlier this month, with a modified adjusted duration of just under 4.3 years. Duration measures a bond's sensitivity to changes in interest rates. EMTL is an actively managed ETF.

As an active ETF, EMTL can hold more corporate debt and fewer sovereigns than are seen in traditional emerging markets bond funds. EMTL allocates over 53 percent of its weight to corporate debt.

Nearly a quarter of the ETF's weight is rated at least A3.

There may be volatility in the short term, but as the market matures we expect to see increased allocations from investors to EMD. And as these countries emerge, there is a case for a narrowing of the political risk premium between developed and emerging markets in the long term, adds State Street.

Latin American debt is almost half of EMTL's lineup.