The FINANCIAL — BofA Merrill Lynch Global Research launched four emerging markets local currency bond indices, the first of their kind, designed to track the performance of local currency non-sovereign emerging markets fixed rate debt, according to Bank of America Corporation.
Development of these new indices has been driven by the growth of interest in this market segment following the rapid increase in local currency sovereign and external corporate debt markets.
“With more than $4 trillion in outstanding debt, including non-Euroclear issues, the local currency non-sovereign market is larger than the local currency sovereign market,” said Anne Milne, head of Global Emerging Markets Corporate Credit Research. “With a unique combination of risk characteristics, this asset class is rapidly gaining the attention of emerging markets fund managers, but to date there has been no index coverage to shed light on market structure and performance. These new indices provide an established performance benchmark in order to facilitate a comprehensive investment process,” he added.
The new series includes four flagship indices:
The BofA Merrill Lynch Broad Local Emerging Markets Non-sovereign Index (ticker LCCB) – the broadest measure of the local currency emerging markets non-sovereign debt markets. LCCB constituents are capitalization weighted with no caps on country or issuer exposures.
The BofA Merrill Lynch Diversified Broad Local Emerging Markets Non-sovereign Index (ticker LCCD) – a more liquid, diversified version of LCCB. There are larger minimum bond sizes in addition to caps on country and issuer exposures.
The BofA Merrill Lynch Local Emerging Markets Non-sovereign Index (ticker LOCM) – the same as LCCB but excludes Sukuks. LOCM constituents are capitalization weighted with no caps on country or issuer exposures.
The BofA Merrill Lynch Diversified Local Emerging Markets Non-sovereign Index (ticker LOCL) – a more liquid, diversified version of LOCM. There are larger minimum bond sizes in addition to caps on country and issuer exposures.
“The introduction of local currency credit market indices does more than just add currency exposure to the credit risks already tracked through existing external emerging market corporate indices,” said Phil Galdi, head of Global Bond Index Research. “While there are some similarities between our external emerging markets non-sovereign index (EMCB) and the new local index (LCCB), they are different in one key aspect – name exposures. Less than half of the names that appear in the local index are also in the external index and only a quarter of the names in the external index also appear in the local index,” he added.
The four alternatives address two primary considerations in index construction: diversification and investibility. All four indices focus solely on securities that settle on Euroclear, the portion of the market that is most readily accessible to offshore investors.
The broad, market cap-weighted index (LCCB) is an important tool to help investors understand and analyze the asset class. But based on its natural capitalization weight, the market is dominated by Asian currencies and has issuers with market cap exposures well in excess of limits typically imposed in policy guidelines for most mandates.
Exposure concentrations are addressed in the diversified version of the index (LCCD), designed for performance measurement purposes. The higher bond size filters used in the diversified index also serve to narrow the universe to the more liquid issues in the market, thus improving investibility, according to Bank of America Corporation.
Finally, while Sukuks (Islamic finance certificates similar to bonds) are an important component of the Asian market, they are generally less liquid than the rest of the market; hence versions of the indices without Sukuks are offered in the LOCM and LOCL. In addition to improving diversification, the currency/issuer capped indices have significantly higher yields as index allocations are shifted from lower yielding Asian currencies into higher yielding EMEA and Latin American currencies.
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