2. Lower credit risk
Investors no longer require the same level of compensation for credit risk from emerging market sovereigns that they did 10 years ago. While the average credit rating of developed markets has fallen since the crisis, emerging market credit ratings have continued to improve on average – a trend that has been in place since the late 1990s. Real yields include a credit risk premium and as credit risks have fallen so has this premium.
3. A premium for inflation
As well as a credit risk premium, the real yields also incorporate a premium for the risk that inflation turns out to be higher than expected. Here too the premium has reduced. Nominal yields are made up of three components: a return to compensate for deferring consumption, a compensation for expected future inflation and a risk compensation for variations in either of the first two components.
4. Economic growth has been low
Growth in both developed and emerging markets is running below the levels experienced before the financial crisis. To stimulate their economies, central banks have cut policy rates and indicated that policies will remain accommodative for some time. This has not only caused short-term real yields to fall but also yields further along the yield curve.
Thanos Papasavvas is a strategist in Investec Asset Management’s fixed income and currency team
