The pitfalls of chasing yield in LatAm local currency bonds

Thought I'd share a lesson from a few years back that still stings a bit, concerning local currency bonds in Latin America. It was late 2017, early 2018. Yields on local government bonds in places like Brazil ($BRL) and Mexico ($MXN) were looking incredibly attractive on paper, especially compared to developed market offerings. The carry was substantial, and the consensus seemed to be that the worst of EM currency volatility was behind us. My conviction was high on the back of what felt like improving fiscal pictures and a generally risk-on global environment.

What I overlooked, or perhaps underestimated, was the fragility of that 'improving' picture and the inherent volatility still present in these markets. I sized up more aggressively than I should have, seduced by the juicy coupon payments. Fast forward to 2018, the Fed started its tightening cycle more forcefully, trade war rhetoric escalated, and suddenly, the 'safe' carry trade became a very uncomfortable long. The USD strengthened significantly, leading to material currency depreciation against $BRL and $MXN, which completely eroded the yield advantage. What looked like a steady income stream turned into a significant capital loss when converted back to base currency. It was a stark reminder that carry, while appealing, can quickly become an anchor if not appropriately risk-managed, especially when the underlying asset class is susceptible to global macro shifts and USD strength. The lesson for me was: always respect the currency risk in local EM debt, no matter how attractive the headline yield appears, and always right-size the position for tail risks.