Fading developed markets bilateral aid and U.S. tariff policy is pushing emerging markets debt as an attractive alternative for growing countries, according to Yvette Babb, portfolio manager at William Blair.
“Debt levels in emerging markets are, in fact, lower than their advanced country counterparts. . . . Default rates are low, but also recovery rates, in the event that a country does default, are very high,” she said during a session at the Canadian Investment Review’s 2025 Investment Innovation Conference.
When the U.S. imposed stricter tariff policies on countries around the world in 2025, expectations showed emerging markets would struggle, said Babb, but improved growth forecasts later in the year showed emerging markets are increasingly diversifying trade relations away from the U.S.
Read: Emerging markets regions building resiliency amid geopolitical shifts, tariff woes
“Over the past 20 years, there has been a material and structural shift in the way emerging markets trade. [They] are increasingly trading among each other, offering a source of resilience in a backdrop where policy shocks are being engineered from [the U.S. administration].
These markets have also seen the emergence of the United Arab Emirates as an important strategic source of bilateral aid, she noted, with ongoing commitments from the International Monetary Fund and the World Bank.
Emerging markets debt represents about 25 per cent of global fixed income assets with allocations varying between three and seven per cent for institutional investors, said Babb, calling it an under-allocated space.
Governments around the world are looking to diversify their funding mixes and are increasingly relying on fixed income instruments to complement existing borrowing tools, she said, noting 90 countries in the space have more than 900 issuers of bonds in local and hard currency. “It’s a growing universe, especially within frontier.”
Read: Canadian institutional investors optimistic about emerging markets fixed income: survey
In addition, despite a steady risk-return profile, the asset class is misunderstood and underrepresented, said Babb. “It is the under ownership and under representation [that] creates that inefficiency, which in our mind gives rise to excess risk premium.”
Both emerging markets sovereigns and emerging markets corporate bonds have long-term default rates below those of U.S. and European high yield, she noted, while investors have been able to recover a sum in the face of a default within sovereign credit.
“Historically, investors in EM sovereigns, in the event of default, have been able to recover close to 50 per cent of their investments.”
Indeed, recovery rates for recent defaults seen in Ghana, Sri Lanka and Zambia have produced a recovery rate between 60 and 80 cents on the dollar, she added. “A country does not go bankrupt. They do receive financial commitments to navigate those periods and that assists investors recovering the value in the underlying assets.
“The countries do not cease to exist.”
Read more coverage from the 2025 Investment Innovation Conference.