Navigating the evolving landscape of emerging market debt in both active and index strategies
From the growth of economies like India and China to developing ESG standards, the EMD space has seen generational change in recent years – and could offer generational opportunities.
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The landscape for managing emerging market debt (EMD) index strategies has changed significantly since we launched our first EMD product in 2011. Over the past 14 years we have faced a number of challenging periods in markets, from the taper tantrum in 2013 to more recent events such as COVID-19 and heightened geopolitical tensions. These have been good tests, proving that index EMD strategies can still be managed to achieve their investment objectives with cost-efficient trading and sourcing sufficient liquidity.
In the local currency space, we have seen the universe of sovereign exposures change and expand materially through significant inclusion events such as India and China, while also seeing the exclusion of Russia in 2022. The trading ecosystem has also evolved significantly since we launched our first EMD product, a time when almost all local currency markets had to be traded via voice. Today, almost all the markets we operate in can now be traded more efficiently via electronic platforms. India remains an exception for now, but change is on the horizon here too.
The integration of ESG has also evolved in recent years, particularly in hard currency exposures, which typically include around 70 emerging market (EM) countries within the universe. We have seen investors shift from simple exclusion lists through to a deeper integration via tilting mechanisms and more complex exclusion factors.
At L&G, we have developed our own in-house sovereign risk ESG framework, which includes features we believe to be important. This framework has in the past 18 months been applied to a custom index, containing our own intellectual property that is now used as the benchmark for a number of recent pooled fund launches. You can learn more about our framework in the article on index sovereign debt strategies in this whitepaper.
In our view, EMD is not an asset class that can be managed in what many would describe as a traditional ‘passive’ manner. We believe, it requires a proactive approach around things such as index events, new issues, corporate actions, and changes to accessibility and sanctions.
We continue to seek ways to evolve our portfolio management techniques to help mitigate some of the inefficiencies of managing against an index. In our local currency EMD portfolios, for example, in the past few years we have used supranationals as part of our toolkit to help reduce tax drag on the portfolios.
Over recent decades, the space in which we actively manage EMD has also undergone significant changes. Today, EM economies, particularly India and China, are the primary drivers of global growth. Two of the five largest economies in the world today are EM countries and it has been forecast that by the end of 2028, that two of the three largest economies in the world will be EM economies. EM countries currently constitute about half of the world's Gross Domestic Product (GDP) in US dollar terms and around 60% in purchasing power parity (PPP) terms. As EM economies have grown substantially over the past decade, trade between them has also increased considerably, with about 50% of EM trade now occurring within and between EM economies[1].
Today, the investible universe of EM debt stands at more than $27 trillion USD, if we take into account both local currency and hard currency debt. This is considerably larger than the US high grade market, UK gilts, or the US high yield market[2]. We expect this to continue growing as other EM countries issue increasing amounts of hard currency debt, their local markets deepen and expand, and the number of local corporate issuers grows.
Active EMD at L&G has evolved in parallel with these developments. Today, we manage EM credit across multiple strategies, including blended (sovereign and corporates), investment grade only (both for sovereign and corporate sub-asset classes), high yield, EM buy and maintain, and EM absolute return. We launched our first Asia credit fund in April 2025, and this year we also won our first EM central bank mandate from an African country – and we’ll be carefully monitoring developments in the space and adjusting our offer accordingly.
To find out more read our new EMD whitepaper
[1] Source: IMF forecasts, L&G calculations as at 21 May 2025
[2] Source: Bloomberg as at 21 May 2025
Key Risks
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