It has long been a maxim that the emerging markets sector is one of the most-dynamic sectors in investment and finance. Colin Dowdall, global head of insurance solutions at Loomis Sayles, which has won the emerging markets manager of the year award, recently sat with Insurance Asset Risk, to talk about it.

What has been driving emerging markets this year, and how have you responded in turn?

Emerging market debt has continued to be a good place to invest for insurers looking for potential diversification and yield enhancement. Importantly, the investment grade portion of the market has grown significantly, offering a growing opportunity set for insurers. There will always be headlines when you are investing in so many different economies and countries around the world, and 2024 was no exception. China's growth took a step down earlier in the year with concerns escalating through the summer as consumer and business sentiment weakened. After decades of dramatic growth, a slowing China called into question growth in the Asia region and more broadly for commodity exporting countries across emerging markets. Our deep research bench focused on prospects for changing trade flows and alternative growth drivers as EM countries adapt to a slowing China. A higher-quality bias in the region has been an important component of our strategy as we have spent our time focusing on the underlying holdings during this period of volatility.

Beyond China, this year has been a heavy election year with the transitioning of power in EM countries including India, South Africa, Mexico and Indonesia. While we are still watching the Mexico situation evolve, the good news is that, in general, we expect policies to be implemented in a more moderate way than perhaps expected from the campaign platforms.

Where have the challenges been, and how have you overcome them?

Middle East has certainly been a challenge for EM investing given the geopolitical concerns from the region. However, when we dig deeper we are comfortable with the exposures to the robust and diversified set of issuers in Gulf. We focus on investing in names that show resiliency despite potential headline risk to the sovereign credit. These are names that often have broad exposure beyond the local economy including in developed markets.

What makes emerging markets a good sector for insurers?

Insurer portfolios are often heavy in developed market corporate credit. We saw last year with the mini-banking crisis in developed markets that this bias can lead to periods of volatility and concentration risk. Often, as was the case with the banking crisis in 2023, we do not necessarily see these volatility events spill into the emerging markets. Emerging markets offer an opportunity to source investment grade opportunities that offer a meaningful pick up in spread and diversification. We have also seen the EM opportunity set expand at roughly a 300% growth rate since 2010. In the midst of this, the default rate within the investment grade sector has been less than 1% annualized over this same time. We have also seen an increased level of issuance in longer dated investment grade paper, offering an attractive complement to long developed market corporates, taxable municipals, and private placements.

What issues should insurers be taking into account when looking at emerging markets?

We find that the education process for insurers and their investment committees can be significant when an insurer is first exploring the asset class. An insurer needs to understand the drivers of headline risk within the sector, and how much deeper and mature the market has become today versus even a decade ago.
We also want to work with the insurer to understand existing exposures in their general account so that the allocation can be complementary. This includes understanding the private market strategy, particularly as we are seeing growth in EM issuance in the private placement market.

Defining success is another important consideration when contemplating an allocation to emerging market credit. Is it realization of a spread pick-up, total return over a benchmark, or simply adding diversified exposure while seeking to conservatively avoid headline risk?

Finally, a unique element when considering potential exposure to high yield EM corporates is the rating agency sovereign cap methodology. An EM sovereign could be rated BB, but there may be attractive investment grade quality corporate issuers that are limited to a BB rating. A high yield bucket can offer exposure to quality issuers with incremental spread.

We have developed a proprietary tool that brings together many of these elements to help an insurer understand risk exposures, spread pick-ups, and diversification as they consider allocations to the EM market.

What is your outlook for the multi-asset investment space over the next year?

Despite entering a rate cutting cycle in the midst of weaker short-term economic data, we continue to be concerned by the persistence and stickiness of global inflation. As the yield curve steepens, we believe this is a great time for insurers to focus on embedding durable income through a variety of different sources across the credit spectrum. Some of the notable sectors that look attractive include Commercial ABS, higher quality CLOs, private asset backed lending, and EM debt. We are also seeing early entry opportunities in CMBS, particularly single asset single borrower in markets that have strong fundamentals, bolstered by the impact of lower short/intermediate term borrowing on cap rates. Given upcoming elections and potential for change in corporate tax rates, we are also keeping an eye on relative value between tax-exempt municipals and taxable spread sectors. The crossover point between T/E Municipals and taxable sector yield curves has shortened and can move materially shorter if corporate tax rate changes.