After Federal Reserve Chair Ben Bernanke announced that tapering would not start this month, most investors expected emerging market bonds to rally as they had been given extra time to prepare for what would be a difficult financial environment, but the EMBI index has only risen 0.9 percent in the last week. With strong demand and a short reprieve from the Fed, Societe Generale SA (GLE) (SCGLY) analyst Benoit Anne is bullish on global emerging market bonds (GEM bonds).

EM credit facing uncertainties

“The upward pressure on UST yields has eased a bit, but the EM credit market is still facing a good deal of uncertainties, including the potential tapering from the Fed and the fiscal cliff discussion in the U.S.,” writes Anne. “EM bonds have failed to rally as much as expected following the FOMC meeting; on the week the EMBI index is up by only 0.9 percent (i.e. 5 basis point spread compression), with high beta credits outperforming over the period.”

But the EMBI hasn’t been suppressed by a lack of interest. Theirs is so much interest in EM Dollar-denominated bonds that this month has broken records for the amount of sovereign bonds being issued: $20 billion worth. “This leads us to be tactically bullish in the near term (as the demand for EM bonds is still strong), but we remain cautious for the medium term as UST yields are likely to rise following the recovery of the U.S. economy,” writes Anne.

sovereign bond issuance record high GEM Bonds

GEM bonds good to buy

Putting off tapering also eases the pressure on central banks, though this may be a bit of a trap. “Central banks that were concerned about financial stability no longer have to worry about the risk of currency crisis,” writes Anne, but of course he is only talking about the near term. There is a real danger that central banks, no longer feeling the pressure to make difficult choices, will be in the same position they found themselves in at the beginning of September. Tapering will happen, probably in early 2014, and emerging market central banks should be using that time to prepare for changing global conditions. Until then, GEM bonds look like a good buy.

“We are now tactically bullish on GEM bonds, especially on EM fixed income, and are busy putting on bullish bond recommendations,” writes Anne.

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