Beyond passive investing, there are also a variety of risk premia on offer if you take an active approach. For instance, there are inefficiencies found across EMD due to the size and complexity of this market. This is an area where active portfolio management can add value.
Emerging markets differ in how they issue and structure debt. An experienced active investor understands these different micro-structures within each market and can take advantage of these differences.
They can also gain exposure to bonds that lie outside the index and actively position themselves relative to an index to manage exposure to interest rate risk or credit risk. Overall, the broader universe that an active manager has access to can help them improve liquidity, the level of yield and exposure to duration risk.
They can also take advantage of special situations. For instance, they could tactically tilt into distressed bonds that are shunned by risk-averse investors. They can also capitalize on inefficiencies within the market by either selling emerging market bonds in anticipation of a downgrade or buying at lower prices following a downgrade.
Another interesting source of return is through the primary issuance market. Unlike an index, active managers can actively participate during issuance season. They can also take advantage of smaller issuers that an index might not capture due to liquidity constraints within the index.
There are benefits from taking both a passive and active approach to emerging market bonds. By combining the two, an investor can build a dynamic and well diversified emerging market debt portfolio.