Emerging Market Debt outlook 2025: Alaa Bushehri, BNP Paribas Asset Management

What does 2025 have in store for Emerging Market Debt?
The major events of 2024 – elections and the start of Fed easing – will shape the landscape for emerging market debt in 2025, while China remains a potential source of risk.

Election outcomes play out
The past year has seen a packed electoral calendar both within and outside emerging markets. So it’s perhaps no surprise that policy rollout will be an important driver for 2025.

Elections are always consequential, regardless of the headline outcome. Even if the same party gains a majority, the policies on which it has won that majority, the composition of the new government, and the resultant ability to drive through policy all have implications for fundamentals. The first policies are beginning to be rolled out in Mexico and Indonesia, giving us some idea of the future backdrop for those markets, but overall, the degree of consequence of 2024’s wave of elections is still a mystery for the emerging market (EM) debt asset class.

The Fed’s path is key
One thing remains the same: the performance of emerging market debt tends to ebb and flow with the health of the US economy. Cycles of interest-rate cuts from the US Federal Reserve have typically served as a strong tailwind for riskier market segments like emerging market debt. Today, with the Fed’s easing cycle underway and a soft landing on the horizon, the prospects look good. The trajectory of the path from September’s 50 basis point cut is still unclear. Whether the progress is linear or more stop-start will affect the broad rates environment, the cost of refinancing and the overall performance of the EM debt asset class.

The good news is that the easing cycle started early in 2024 for EM economies, with central banks, notably in Latin America, putting themselves in a position to cut rates through their effective management of their inflation targets. Having met their economic targets through those early cuts, some are now on hold, having afforded themselves the opportunity not to follow the Fed but to wait. Against this policy backdrop, we expect EM economic growth to remain resilient into 2025, supported by robust private consumption, investment and exports.

The picture is a little different in the rates market, where the adjustment, led by the US, has just begun. The extent and the pace at which the Fed lowers its policy rates will be key to how we position our portfolios in 2025. The exception is in more idiosyncratic countries – for example, Sri Lanka, where restructuring is likely to be the dominant driver.

China uncertainty persists
Beijing has recently broadened and deepened its attempts to revitalise China’s economy. While it is too early to judge how successful these measures will be, or to predict how much more stimulus the government will ultimately provide, success could significantly improve the outlook for regional EM economies.

However, China’s challenges remain and are significant to the world economy. Growth targets will remain the primary focus into 2025, as local property market woes weigh on economic activity. But if current or forthcoming measures are more pronounced, we could see positive growth sooner than we expect.

Local currency offers the strongest opportunity
We maintain our positive outlook for EM US dollar government bonds, supported by improving fundamentals, lower developed market interest rates and consistent demand for the relatively high yields on offer. However, performance looks likely to remain diverse, with select pockets offering greater potential for outperformance.

We believe the most compelling opportunities lie in local currency bonds, where headline yields have risen significantly in recent years and real (inflation-adjusted) yields are now at historically attractive levels, particularly relative to real yields in the US. However, country selection will be important. We expect Latin America to remain a leader in lowering rates, driven by Colombia, Chile and Peru. In Eastern Europe, Hungary, Czechia and Romania are likely to lead the way with cuts.

We are also seeing interesting turnaround potential in several markets. In Turkey, the new central bank governor is driving a return to orthodoxy, independently managing inflation targets and tackling other important economic indicators. In Egypt, the government has worked closely with the International Monetary Fund and attracted significant foreign direct investment from Gulf countries in 2024. In Argentina, a new president is succeeding in driving through policies that have the potential to improve key indicators for the country. The challenges for the market remain considerable, but the direction of travel is positive.

In all three markets, these stories have driven positive performance in US dollar bonds in 2024. If progress continues in the year ahead, this has the potential to feed through into sentiment and performance for local currency bonds.

EM corporate yields hold relative attractions
EM corporate bond spreads over US Treasuries have compressed in recent quarters and some countries and sectors have begun to look expensive on an absolute basis. However, relative to their counterparts in the US and other developed markets, they remain attractive.

Corporate fundamentals are robust, with recent earnings reports supporting a resilient outlook. Geopolitical tensions, notably conflict in the Red Sea, mean there is potential for supply chain disruption, but EM corporates have proven agile in their operating models, shifting providers or optimising their cost structure to minimise the impact.

Ultimately, the true effects of a tumultuous 2024 are yet to make themselves fully known. To that end, the outlook for 2025 remains uncertain, but there are pockets of opportunity spurred on by fledgling positivity in core areas.

You can also find BNPPAM’s 2025 outlook series covering macroeconomics, private credit and sustainable finance here.

Elly Higgins
Associate Director
+44 (0)7510 394622
higgins@montfort.london
Reputation Management – Global Expertise