Emerging Markets Bonds Lead Fixed Income Gains as Investors Diversify Beyond U.S. Assets

Amidst a period of considerable discussion surrounding the "Sell America" trade and a noticeable rotation of capital away from U.S. markets, foreign stocks have captured significant investor attention. However, international bonds, particularly those issued by emerging markets, have also experienced a robust performance trajectory. Joanna Gallegos, co-founder of the fixed-income ETF company BondBloxx, highlighted this trend on CNBC’s "ETF Edge," stating, "The best performing area in fixed income year to date, and also last year, was emerging markets."

Illustrating this strong performance, the iShares JPMorgan USD Emerging Markets Bond ETF (EMB) delivered a return exceeding 13% in 2025. BondBloxx’s JP Morgan USD Emerging Markets 1-10 Year Bond ETF (XEMD) achieved comparable results during the same period. Several factors are contributing to increased investor interest in international diversification. These include a weakening U.S. dollar, concerns regarding the fiscal health of the United States due to high spending and deficits, and the potential investment impact of President Trump’s foreign policy initiatives. Furthermore, recent performance trends have undeniably played a role in attracting investors to explore opportunities beyond domestic markets.

Gallegos clarified that the increased interest in international assets is primarily driven by currency dynamics and a pursuit of performance, rather than a definitive view that the U.S. market is losing its appeal. "The dollar pressure is putting more of a view on non-U.S. assets," Gallegos explained. "I think people are just seeing the returns from last year and looking for a way to take advantage of those opportunities more so than anything else," she added, emphasizing that "The U.S. trade is not going away."

Data from Morningstar for the month of January supports the notion that U.S. investors are not abandoning domestic markets, whether in stocks or bonds, even as assets flow overseas. In January, U.S. market ETFs attracted an estimated $156 billion in net inflows, marking the strongest January on record, according to Morningstar. Concurrently, investors allocated $51 billion in net positive flows to international equity ETFs, setting a new monthly record for that category. Taxable bond ETFs also experienced a surge, with investors adding $46 billion in net inflows during the month. This growth was spearheaded by the Vanguard Total Bond Market ETF (BND) and the Vanguard Intermediate-Term Corporate Bond ETF (VCIT).

Despite anxieties surrounding a potential private credit bubble, Gallegos asserted that the U.S. continues to offer "the strongest fixed income market" and "the biggest opportunity set for the world to continue to invest in it." Investors are actively expanding their portfolios and incorporating new avenues for returns while maintaining U.S. assets as their core holdings. "I think we still see a resilient economy," Gallegos commented, citing steady earnings and robust corporate balance sheets as indicators. Within the bond market specifically, she noted, "the yield curve looks like it’s steepening, behaving appropriately, with rates on the long end being higher than the rates on the shorter end."

Todd Sohn, a technical strategist at Strategas Securities, also discussed the significant potential for shifts within the fixed-income segment of portfolios on "ETF Edge." He suggested that these changes could be even more pronounced than those observed in equity assets, though not necessarily driven by an international-first strategy. For the past several years, money market funds have dominated inflows, with "trillions in assets" held in cash accounts that have offered attractive returns with minimal risk. However, as central bank interest rates begin to decline, Sohn anticipates that a greater volume of capital will migrate into credit markets and bonds. "That money is going to get deployed to fixed-income products," he stated.

Gallegos further observed that investors no longer need to extend themselves significantly to achieve attractive yields. She pointed to investment-grade credit as a prime example, highlighting how investors are capitalizing on the opportunity to move "out on the rate spectrum to BBB." This segment offers higher yields while maintaining historically low default risk. She also stressed that bonds are evolving beyond their traditional role as purely defensive instruments. "Bonds are not just necessarily the safety part of your portfolio, but also the opportunity and the income set as well," Gallegos concluded.

The data indicates a nuanced shift in investor behavior. While U.S. markets remain a central focus, there is a clear and growing appetite for international diversification, particularly within the fixed-income space. Emerging market bonds, driven by favorable currency trends and strong past performance, are emerging as a significant area of opportunity. This trend is occurring against a backdrop of substantial inflows into U.S. ETFs, suggesting that investors are adopting a more diversified approach, layering international assets onto a foundation of domestic holdings. The recalibration of interest rate expectations is also poised to drive further capital into the bond markets, offering investors a broader spectrum of opportunities beyond traditional safe havens.