More than a century and a half before Brexit — the 1820s, to be precise — London’s bustling financial district launched an investment vehicle that built railways and bolstered overseas infrastructure: the foreign bond.
There must have been some boisterous boiler fuel in that financial innovation, because as the industrial revolution has passed into the digital age, international bonds have far outlasted steam trains, buggy whips, biplanes — even the exploding Ford Pinto.
Roughly five years ago, foreign bonds moved into the remarkable position of representing a full third of world’s capital markets. And today’s investors can’t help but ponder the possibilities dangled by nations such as China, which with its $11 trillion bond market, represents the world’s third largest.
[See: 9 ETFs to Capture China’s Red-Hot Growth.]
“Foreign government bonds belong pretty much in any portfolio that has a bond sleeve,” says Joe Inskeep, a financial advisor at Advanced Wealth Strategies Group in Round Rock, Texas. “They typically have higher yields and are part of diversifying one’s portfolio.”
Besides, Inskeep says, “America is not the only game in town and certainly not always the prettiest girl to take prom.”
“Global bonds, especially emerging market debt and high yield, have historically provided higher levels of income than U.S. investment grade bonds,” says Matt Peden, chief investment officer at GuideStone Capital Management in Dallas. “For example, Russian government bonds — with yields above 7 percent — were supported by a positive growth outlook given the recovery in oil and gas prices from their lows in the 2015.”
To that end, foreign bonds issued in select sectors offer investors a chance to hone in on opportunities akin to how they pick stocks.
“Recently, select emerging market corporate issuers such as a state-owned oil companies in Latin America and financials in the United Kingdom offered good carry potential and benefit from improving sovereign fundamentals,” Peden says.
There’s at least one thing about foreign bonds that isn’t so foreign: how to weigh their place in your portfolio. Experts say bond buyers should have a firm grasp of their own goals and risk tolerance, while taking into account age and income needs.
“For the right investor, foreign bonds could provide much needed diversification, which is likely the greatest advantage,” says Don Orban, president and CEO of Midwest Retirement Solutions in West Des Moines, Iowa. “Depending on market conditions in the U.S. and abroad, foreign bonds could offer higher yields. In addition, if foreign currencies outperform the dollar, returns are greater because foreign earnings would convert into more dollars.”
While it may pay for investors to take a calculated risk on established companies in the midst of turbulence — what Warren Buffett calls investing when a business is “on the operating table” — the same shouldn’t apply to foreign governments locked in a political or financial crisis.
“Venezuelan debt, although denominated in dollars, lost almost 35 percent over 2017,” says Peter Wilson, global fixed income strategist at the London-based Wells Fargo Investment Institute. “The elements of credit risk, political risk and unorthodox policy in some countries means there is the risk of losses from picking the wrong sovereign.”
“Foreign bonds of sovereign countries with a strong legal infrastructure may be good investments,” says Fred Leamnson, founder and president of Leamnson Capital Advisory in Reston, Virginia. “Investing in individual bonds of these countries without the benefit of professional research may prove riskier than a fund.’
[See: 7 Bond Funds to Buy as Rates Rise.]
Leamnson instead suggests “investing in an international government bond index fund, which represents a broad diversity in bonds across countries and/or regions.” Costs will also be lower than in an actively managed fund.
As for emerging markets that aren’t quite mature, that depends. It comes down to investing what you can afford to lose, but also hanging in there for the long haul until the full political and economic story plays out.
“History shows that emerging debt has provided excellent returns over the longer time periods,” Wilson says.
And with careful study, opportunities abound in the short term as well.
“Last year in the emerging market space, Poland, South Africa, and Peru returned more than 20 percent to a dollar-based investor,” Wilson says.
“Emerging market countries may be riskier to invest in but their higher bond yields could offer better risk-adjusted returns over the long run,” says Loren Asmus III, vice president of investment research at Canterbury Consulting and based in Newport Beach, California. “For instance, Brazilian bonds performed well over the last several years as economic growth accelerated and inflation declined.”
And to apply some of the above logic, the political turmoil in Brazil could be a bellwether for investors to pull out — fast. Former President Luis Inácio Lula da Silva, the current frontrunner in Brazil’s presidential race, is also on the precipice of going to prison on corruption charges. Meanwhile, the much ballyhooed 2016 Summer Olympics left Brazil with two black eyes — thanks to widespread reports of crooked insider deals and a venue complex that already looks like ancient Greek ruins.
Then again, some world news alarms turn out to be false ones, at least so far as bonds go. For all the bluster coming from the Washington about ripping apart NAFTA and building a border wall, local currency bonds in Mexico have fared very well over the last year.
“We expect this to continue despite the upcoming Mexican election,” says Jack McIntyre, portfolio manager and fixed-income investor at Brandywine Global Investment Management in Philadelphia.
Now, compare that to the relatively calm Land Down Under and get ready to gulp on your shrimp off the barbie, mate: “Australia has been a high-quality bond market that has performed extremely well for years,” McIntyre says. “But we doubt if it will continue to the same degree.”
U.S. 10-year Treasury bonds act as a benchmark for Australian interest rates — and a fast-rising T bond yield could hurt Australian borrowers and unleash a wave of mortgage defaults.
[See: 9 Strategies for Tapping the World’s Growth.]
Yet barring a domino collapse of foreign governments, whether or not triggered by inflationary pressures here at home, expect international bonds to continue their world-beating ways. The investments of the 19th century that powered the rise of railroads have indeed grown into bona-fide financial rocket fuel.
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Global Bonds Are a Passport to Income originally appeared on usnews.com
