EMLC: Avoid As Dollar Strength Persists (NYSEARCA:EMLC)

‘Damage’ is about taking risks, stepping into new territory, regardless of the outcome. – Mya.

Investing in foreign markets can be an effective way to diversify your portfolio, reduce risk, and potentially garner attractive returns. The stock side has been brutal for well over a decade, though, given that broad-based emerging market proxies have largely gone sideways. What about the bond side, though? Sadly, it’s been worse. That’s why the VanEck J.P. Morgan EM Local Currency Bond ETF (NYSEARCA:EMLC) looks like a difficult buy to me, especially at this point of the cycle with dollar strength.

EMLC is a fund that aims to closely replicate, before fees and expenses, the price and yield performance of the J.P. Morgan GBI-EM Global Core Index. This index is comprised of bonds issued by emerging market governments and is denominated in the local currency of the issuer. The EMLC ETF, therefore, provides exposure to a broad range of local currency bonds issued by sovereign entities in emerging markets.

Top 5 Individual Positions

EMLC’s top five individual positions are:

1. Philippine Government International Bond (6.25001/14/2036) – 1.18% of Net Assets
2. Brazil Letras do Tesouro Nacional (0.00007/01/2026) – 1.17% of Net Assets
3. Brazil Notas do Tesouro Nacional Serie (9.76201/01/2027) – 1.06% of Net Assets
4. Brazil Letras do Tesouro Nacional (0.00001/01/2026) – 1.05% of Net Assets
5. Brazil Notas do Tesouro Nacional Serie (9.76201/01/2025) – 1.03% of Net Assets.

Note that the weightings are small here, as the fund has 417 holdings, making it very diversified by positions. The fund focuses on comparatively robust emerging markets, with investment-grade securities comprising a little over 70% of the value of the fund. As a result, while emerging markets are, as a whole, quite risky, investment-grade sovereign issuers do have low credit risk.

Nearly 10% is in China, with the remainder spread out across Indonesia, Malaysia, Brazil, and other countries.

When compared to its peers, the EMLC stands out for its unique focus on local currency EM bonds. While other funds may also invest in emerging markets, they often do so through dollar-denominated or hard currency bonds. This distinction makes EMLC quite different than other funds investors tend to turn to.

Case for Investment: Diversification and Yield

While the EMLC ETF does pose some risk due to its exposure to foreign currency fluctuations, particularly against the U.S. dollar, it also offers potential benefits. One of the primary advantages of investing in the EMLC ETF is the potential for diversification. Unlike traditional U.S.-based investments, the EMLC ETF provides exposure to a broad range of emerging markets, thereby offering a degree of diversification that could help to mitigate risk.

Additionally, EM bonds often offer a yield pickup compared to domestic bonds, making them an attractive option for income-seeking investors. However, it’s important to note that these higher yields come with higher risk, particularly in the form of currency risk, due to the fund’s exposure to local currency bonds.

Given the fund’s sensitivity to the strength of the US dollar, timing is a critical factor when considering an investment in the EMLC ETF. When the dollar strengthens, as it has in recent years, the fund can experience losses. However, when the dollar weakens, the fund has the potential for gains. It’s also worth noting that the fund has a lower interest rate risk compared to some other bond funds, which could be beneficial in a rising interest rate environment.

Conclusion

VanEck J.P. Morgan EM Local Currency Bond ETF is a unique investment opportunity that offers exposure to the potential of emerging market bonds. Right now, this is an avoid to me. The strong dollar poses real risk for the fund, and volatility in all risk assets likely won’t help much either. Worth keeping on a watch list for now, but that’s it in my view.