Text size

Asian FI offers refuge to selective investors amid negative-yield environment

Listen to article

This is a sponsored article from PineBridge Investments.

Arthur Lau, CFA
Co-Head of EM Fixed Income, Head of Asia ex Japan Fixed Income
PineBridge Investments

For investors looking to escape the negative-yield environment, Asian bond markets offer a potential refuge with higher yields and stable returns. But to make the most of this opportunity, investors must navigate idiosyncratic risks and the impact of policy and politics, such as the recent Chinese yuan movement and the uncertain trajectory of the US-China trade negotiations.

Asian fixed income saw strong inflows in the first half of 2019. While the region’s bonds are still underrepresented in global benchmarks, investors are increasingly recognising their diversification benefits and, contrary to the general misconception, the Asian bond market is not a high yield market with high beta and volatility.

Over the past five years, Asian bonds’ Sharpe ratio (a measure of their volatility-adjusted return ratio) has held up very well at 1.59 compared with those of other major asset classes globally (US investment grade credit at 0.99, emerging markets USD at 0.94, and US equities at 0.88).1 One reason for this is a strong domestic investor base that understands Asia’s bond market.

Asian bond issuers also tend to have very low gearing ratios (corporate net leverage) and high interest coverage ratios compared with their emerging market — and even some developed market — peers. This is another reason why the Asian market has managed to deliver such a high Sharpe ratio over different business cycles, as well as through some major macro events in the past five years.

Since the 1997 Asian financial crisis, there have been no defaults in the Asian investment grade bond universe. In addition to high credit quality, high systematic government support for some issuers, especially state-owned enterprises, contributes to the market’s stability. Where market volatility does exist, therefore, we think the Asian bond market actually becomes more attractive to long-term institutional investors.

Investing selectively to navigate trade twists and policy pivots
Two themes have figured prominently in the Asian bond market this year: shifts in monetary policy and the US-China trade dispute.

The US Federal Reserve’s pivot towards easing and the accommodative stance of some of the region’s central banks have provided a positive backdrop for Asian bonds. With developed market bonds offering negative to negligible yields, higher-yielding Asian bonds are becoming harder to ignore.

On the other hand, given uncertainties around the trade dispute between the US and China, we expect Asian bond and currency markets to remain choppy in the near term. As an anchor currency in the global market, the Chinese yuan’s recent move past against the US dollar and the US designation of China as a currency manipulator will likely intensify the volatility in the currency market in the region and trigger more risk aversion. However, the majority of Asian bond issuers are domestically focused, or have revenue largely sourced in US dollars. As such, we do not believe higher volatility in the yuan will cause a large-scale credit deterioration in Asia bond markets.

The trajectory of the yuan will hinge to a great extent on the development of trade negotiations. Additional and further negative developments in the trade talks with the US will mean China is less likely to hold a conciliatory stance on the currency, given greater pressure to mitigate negative tariff-related impacts.

Over the long term, we expect the Asian bond market to remain resilient and attractive. On an index level, less than 3% of Asian bonds are directly affected by the tariffs, and the tariff impact is not linear. Some companies may absorb the cost of tariffs through margin compression. While an unfavourable outcome to the dispute could hurt economies like Korea, Japan, and Taiwan, it could benefit others through production shifts from China to Southeast Asia, for example.

Active management offers the flexibility to navigate across the risk spectrum and adopt a more selective approach.

Identifying opportunity in a complex investment universe
In the diverse Asian bond market, the key is to be more tactical in allocating across sectors, countries, and names. A holistic view of economic and political developments, along with rigorous credit analysis, will become even more critical.

The Chinese property sector, for example, offers select opportunities within a fragmented market. Defaults have risen recently on the back of the nationwide deleveraging effort, and we expect weaker and marginal developers to continue facing challenges. However, in our view this is unlikely to become systemic, and we expect the sector’s overall credit quality to improve over time.

Meanwhile, a new rule states that Chinese property companies can only issue USD bonds for refinancing offshore long-term debt maturing within one year. This has both positive and potentially negative implications. The rule essentially sets a cap on the total amount of offshore long-term debt, which should provide supportive technical drivers for Chinese property bonds. But it could also create funding and liquidity pressures for companies with weaker credit profiles or limited access to multiple funding sources.

Another example is Indian regulators’ recent larger-than-expected capital injection plan for the banking sector. We believe the initiative should help public sector banks and the broader banking system in dealing with asset quality and liquidity issues. This should present potential investment opportunities in this sector, but only if the plan is effectively implemented.

These developments underscore how value can be highly dispersed across Asian bonds, making credit selection particularly important. The investor who can selectively identify stronger players can seize those opportunities.

1 Bloomberg, rolling five-year data as of 30 June 2019. Asia US dollar bonds by the JPM JACI index; emerging markets (US dollar) by the JPM EMBI Global Diversified index; US investment grade credit by the Bloomberg Barclays US Credit index; and US equities by the S&P 500 index.

Disclosure Statement

PineBridge Investments is a group of international companies that provides investment advice and markets asset management products and services to clients around the world. PineBridge Investments is a registered trademark proprietary to PineBridge Investments IP Holding Company Limited.

Readership: This document is intended solely for the addressee(s) and may not be redistributed without the prior permission of PineBridge Investments. Its content may be confidential, proprietary, and/or trade secret information. PineBridge Investments and its subsidiaries are not responsible for any unlawful distribution of this document to any third parties, in whole or in part.

Opinions: Any opinions expressed in this document represent the views of the manager, are valid only as of the date indicated, and are subject to change without notice. There can be no guarantee that any of the opinions expressed in this document or any underlying position will be maintained at the time of this presentation or thereafter. We are not soliciting or recommending any action based on this material.

Risk Warning: All investments involve risk, including possible loss of principal. If applicable, the offering document should be read for further details including the risk factors. Our investment management services relate to a variety of investments, each of which can fluctuate in value. The investment risks vary between different types of instruments. For example, for investments involving exposure to a currency other than that in which the portfolio is denominated, changes in the rate of exchange may cause the value of investments, and consequently the value of the portfolio, to go up or down. In the case of a higher volatility portfolio, the loss on realization or cancellation may be very high (including total loss of investment), as the value of such an investment may fall suddenly and substantially. In making an investment decision, prospective investors must rely on their own examination of the merits and risks involved.

Performance Notes: Past performance is not indicative of future results. There can be no assurance that any investment objective will be met. PineBridge Investments often uses benchmarks for the purpose of comparison of results. Benchmarks are used for illustrative purposes only, and any such references should not be understood to mean there would necessarily be a correlation between investment returns of any investment and any benchmark. Any referenced benchmark does not reflect fees and expenses associated with the active management of an investment. PineBridge Investments may, from time to time, show the efficacy of its strategies or communicate general industry views via modeling. Such methods are intended to show only an expected range of possible investment outcomes, and should not be viewed as a guide to future performance. There is no assurance that any returns can be achieved, that the strategy will be successful or profitable for any investor, or that any industry views will come to pass. Actual investors may experience different results.

Information is unaudited unless otherwise indicated, and any information from third-party sources is believed to be reliable, but PineBridge Investments cannot guarantee its accuracy or completeness.

PineBridge Investments Europe Limited is authorised and regulated by the Financial Conduct Authority (FCA). In the UK this communication is a financial promotion solely intended for professional clients as defined in the FCA Handbook and has been approved by PineBridge Investments Europe Limited. Should you like to request a different classification, please contact your PineBridge representative.

Approved by PineBridge Investments Ireland Limited. This entity is authorised and regulated by the Central Bank of Ireland.

In Australia, PineBridge Investments LLC is exempt from the requirement to hold an Australian financial services license under the Corporations Act 2001 (Cth) in respect of the financial services it provides to wholesale clients, and is not licensed to provide financial services to individual investors or retail clients. Nothing herein constitutes an offer or solicitation to anyone in or outside Australia where such offer or solicitation is not authorised or to whom it is unlawful. This information is not directed to any person to whom its publication or availability is restricted.

In Hong Kong, the issuer of this document is PineBridge Investments Asia Limited, a company incorporated in Bermuda with limited liability, licensed and regulated by the Securities and Futures Commission (SFC). This document has not been reviewed by the SFC.

In Dubai, PineBridge Investments Europe Limited is regulated by the Dubai Financial Services Authority as a Representative Office.

In Germany, PineBridge Investments Deutschland GmbH is authorised and regulated by the Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin).

In Switzerland, PineBridge Investments Switzerland GmbH is authorised and regulated by the Swiss Financial Market Supervisory Authority (FINMA).

PineBridge Investments Singapore Limited is licensed and regulated by the Monetary Authority of Singapore (MAS). In Singapore, this material may not be suitable to a retail investor and is not reviewed or endorsed by the MAS.

Last updated 22 July 2019

This is a sponsored article from PineBridge Investments.

Related Tags