American exceptionalism is on the rise, posing a threat to emerging market local currency bonds that are enjoying a "golden moment".

Despite the fact that the yield of local currency bonds in emerging markets is even lower than US Treasuries, they are still considered to outperform similar bonds priced in US dollars. Due to global trade uncertainties raising expectations of interest rate cuts in developing countries, and falling oil prices suppressing inflation, these bonds have performed better than dollar-denominated bonds since the beginning of the year, marking the best start since 2022. Meanwhile, the threat of tariffs from US President Donald Trump has weakened the dollar, leading to poor performance of dollar-denominated bonds. Jon Harrison, Managing Director of Emerging Market Macro Strategy at London GlobalData TS Lombard, stated, "Given the weak US dollar, and more room for emerging market central banks to cut policy rates, we strongly prefer local currency bonds in emerging markets over dollar-denominated bonds." He also noted, "The slowing US economy and increased likelihood of recession are unfavorable for global growth, which could further prompt rate cuts by emerging market central banks." Bloomberg index shows that local currency bonds in emerging markets have yielded a return of 3.2% this year, while similar bonds priced in US dollars have only risen by 0.7%. The outstanding performance of local currency bonds has led to an unusual situation: historically higher-risk bonds have lower trading yields than dollar-denominated bonds, which are traditionally considered as global safe-haven assets. The average yield of the local currency index has dropped to 4.03%, compared to 7.1% for dollar-denominated bonds and 4.12% for US Treasuries. In recent weeks, one of the key driving factors for local currency bonds has been the increasing market expectation of central banks easing monetary policy due to the market turbulence caused by Trump's announcement of "equal tariffs" on April 2nd. Bloomberg compiled data shows that in April, a one-year rate swap index composed of 18 emerging economies fell by approximately 15 basis points, potentially marking the largest monthly decline since September 9. "Increased volatility" Philip McNicholas, Asia Sovereign Strategist at Robeco in Singapore, said, "In a larger market, we prefer local currency bonds as it gives us more ways to express our views on currency, monetary policy, duration, and yield curve." He added, "Increased volatility in US Treasuries and US policy should lead to higher term premiums, and this weakens the attractiveness of the dollar." Term premium is the compensation bond investors demand for bearing the risk of interest rate fluctuations during the security's lifetime. As the weakening dollar boosts the performance of emerging market currencies, local currency bonds in emerging markets may receive further momentum. Bloomberg's Dollar Spot Index has fallen by nearly 4% in April, marking the fourth consecutive monthly decline. Mike Riddell, Fixed Income Portfolio Manager at London-based Fidelity International, stated, "After a decade-long bull market for the dollar, the dollar still looks very expensive. A correction in the overvaluation of the dollar, combined with an overweight position in dollar longs, could be a major positive factor for emerging markets in the coming years." Decrease in issuance The deteriorating outlook for the dollar has made some bond issuers more cautious about issuing dollar-denominated bonds. Bloomberg compiled data shows that in April, issuance of dollar-denominated bonds in emerging markets outside of China decreased by 36% compared to the same period last year, amounting to only $51 billion. Institutional investors like Goldman Sachs believe that the performance of local currency bonds in emerging markets will continue to outperform similar bonds. Analysts Andrew Tilton and Kamakshya Trivedi from Goldman Sachs wrote in a research report released last Thursday, "Given concerns of economic recession, we believe that local currency interest rates in emerging markets will outperform other emerging market assets."