Implicit in pervasive hand-wringing over the recent sharp rise in long-end bond yields across advanced economies is the notion that the line between developed and emerging markets is becoming blurry.

Liz Truss hosted an advanced screening of this B(BB)-movie in September and October of 2022, when her ill-conceived fiscal plan triggered a violent reaction in gilts just as broad-based dollar strength weighed on sterling. The result: An EM-style meltdown as gilts sold off with the pound, which plunged to its weakest levels since the mid-1980s.

That episode was framed as an aberration, not a warning. The handy work of an epic moron whose imbecility was surely irreplicable. I was more cautious from an interpretational standpoint. I suggested at the time — and on several occasions since — that although Truss was indeed a singular imbecile, the events which condemned her premiership to infamy proved there’s no bright-line distinction between hard currency-issuing DMs and soft currency-issuing EMs.

That’s certainly not to say there’s no distinction at all. Rather, my point was that this is a continuum, not a dichotomy. Countries can move along that continuum, and although it’s highly unlikely the UK will ever become Turkey, or vice versa, there’s nothing chiseled into any stone tablets — no divine dictate — that precludes such an outcome under any circumstances.

As alluded to here on Tuesday morning, and also over the weekend, market participants seem to be losing faith in the idea that developed market sovereigns are separate and forever distinct entities not subject to the same rules as their emerging market counterparts. No longer, it’s beginning to appear, are markets willing to accept unquestionably the idea that imbalances which would render any EM an uninvestable laughing stock are somehow inconsequential, or even irrelevant entirely, in the context of DM sovereign issuers.

If that’s even a little bit true, it’s problematic because this is all a confidence game. And much as I like egalitarian outcomes, an overnight transition to a state of affairs where people have no more confidence in hard currencies than soft, and no less confidence in soft currencies than hard, would be quite chaotic.

With that in mind, I was delighted with the title SocGen’s Phoenix Kalen chose for a recent note: “Are EMs and DMs swapping places?” Local bonds in emerging markets haven’t “been totally immune to the DM bond selloffs [but] the reaction has been remarkably muted,” she wrote, introducing her analysis.

The figure on the left, above, shows you the change in 10-year yields across locales since the YTD low for 10-year Treasury yields (i.e., since the Friday after “Liberation Day”). Only in Turkey (and I love Kalen’s veiled allusion to Erdogan, the quintessential “idiosyncratic cause”) are EM yields higher.

Why, Kalen asked, are “most EMs ignoring the violent moves occurring in DM rates?” Across a pair of notes on the subject, she cited a total of seven factors, including projections for “much smaller” fiscal deficits as a share of GDP compared to the US, less inflation concerns (Kalen noted that analysts generally expect YoY CPI to decline in most EMs this year) and, as illustrated on the right, a “lack of correlation between US rates markets and EM rates.”

Among EMs, only Mexico has a three-month correlation with USTs in excess of 0.4. As Kalen put it, “the breakdown in correlations is indicative of investors’ treatment of EM local asset valuations as increasingly distinct and independent from US asset prices.”

I should note: This isn’t only about DMs pushing the fiscal envelope too far, although that’s a big part of it. It’s also, in the US context, about governance.

One reason (arguably the main reason) EM assets are considered distinct from DM assets is the above-mentioned idiosyncratic risk. DMs, by virtue of a shared commitment to liberal democratic (small “l,” small “d”) norms, are a political monolith from the market’s perspective. EMs, by contrast, often have to be considered in isolation due to unique local circumstances.

Those unique local circumstances constitute the idiosyncratic risk, which is typically a function of volatile local politics, a relatively weak rule of law and/or autocratic administration by leaders who rely on charisma and coercion to stay in power. Sound familiar?