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In the last couple of months, many foreign assets have been marked down as the dollar has rallied. Whether that's a snapback or otherwise, the dollar rebound doesn't change the importance of foreign diversification for long-term investors, which includes fixed-income products. The PowerShares Emerging Markets Sovereign Debt Portfolio ( PCY - Get Report), listed last October, has behaved exactly as you might think. It has not been terribly volatile, but it has turned down some as the emerging equity markets have rolled over in recent months. The paper the fund holds is dollar-denominated, so the greenback's move hasn't led directly to the decline. However, the price has pulled back as capital has been rotating out of emerging-market assets. In terms of delivering as-advertised exposure, the fund is worth a look. As the chart below shows, PowerShares Emerging Markets did very little, which is not a bad thing for a bond fund, before rolling over slightly in June. Since then, it has returned to being stagnant. The comparison with the iShares Lehman 7-10 Year Treasury ( IEF - Get Report) shows an occasional zigzag effect vs. holding domestic Treasury debt. At different points in the cycle, the fund should provide price leadership, perhaps when U.S. rates start to rise. PowerShares Emerging Markets provides equal access to 22 countries, ranging from those you might expect, such as Brazil, Turkey and Poland, to more adventurous investments such as Qatar, Uruguay and Vietnam. The riskiest country held would seem to be Venezuela. Every so often, Venezuelan officials suggest the country might cancel its debt. While that's unlikely, if it did happen the fund would take an instant 4.5% haircut.
As previously mentioned, the bonds held in the fund are dollar-denominated. The advantage of this is that investors aren't directly exposed to occasional devaluations, which recently happened with the Vietnamese dong. The disadvantage is that holders can't participate in any future appreciation of the underlying currencies as some of the countries held achieve more global economic relevance.
PowerShares Emerging Markets has been yielding close to 6% of late, net of its 0.50% fee, and it pays monthly. The fund blends higher-yielding countries, such as Russia, with lower yielders like Korea, meaning it offers diversification instead of nothing but high-yielding deficit countries that are vulnerable to the same pitfalls. The fund's holdings have a variety of maturities, but 39% mature between five and 10 years and another 39% matures in 20 years or longer. The average credit rating for the holdings is BBB from Standard & Poor's and Baa2 at Moody's. Emerging-market equities have been pasted in the last couple of months, and no one knows for how long that decline will continue. What is known is that the drop thus far has been very fast and that it can't go on forever. I would also add that this is not the first big and fast decline in this cycle. However, emerging markets are still important for constructing a diversified portfolio. To have no exposure to emerging markets is a big gamble. This segment will turn up at some point, and PowerShares Emerging Markets is one way to benefit from that turn, a turn that is likely to be more robust than a rebound in the U.S.