With improving economic conditions in the region, high quality Asian bonds are expected to attract yield seekers despite the recent global fixed income market volatility. The hard currency investment grade (IG) segment, which makes up nearly 80% of the market,1 offers distinct advantages compared to its developed market peers.
Arthur Lau, Head of Asia ex Japan Fixed Income, and Omar Slim, Senior Portfolio Manager, Asia Fixed Income, answer questions about Asia’s economic recovery, why Asian IG bonds remain attractive, and how to navigate opportunities in the current investment environment.
Given recent bond market volatility, how do you expect Asian IG bonds to perform in this environment?
Lau: Investors demanding higher yields could drive interest in Asian fixed income, and we have been seeing strong inflows into the market since the start of the year. We believe conditions remain ripe for Asian IG’s continued strong performance this year as the region’s recovery momentum accelerates and accommodative monetary policies remain in place. Asian IG bonds remain attractive for global investors in terms of yield, duration, valuation, and fundamentals. For instance, Asian IG offers higher yield with shorter duration than US and global IG. Shorter duration helps cushion portfolios in a rising-yield environment.
Source: Bloomberg, PineBridge Investments as of 19 January 2021. Asian IG is represented by JACI Investment Grade, US IG by the Bloomberg Barclays US Credit Index and Global Agg Credit IG: Bloomberg Barclays Global Aggregate Index. For illustrative purposes only. We are not soliciting or recommending any action based on this material. Past performance is not indicative of future results.
Slim: Broadly speaking, economic fundamentals in Asia are stronger compared to other markets due to better Covid-19 containment efforts, and this should offer a strong anchor for the region’s recovery. We expect a broad economic recovery to take shape this year, not only in China but also in Singapore, South Korea, and Thailand, for instance.
In terms of credit metrics, corporate net leverage has remained relatively low compared to US, Latin American, and other emerging markets issuers, while interest coverage ranked highest relative to these three regions.2
As such, Asian credit spreads should remain well anchored, especially given the stable institutional investor base that buffers the market at time of substantial volatility.
Source: JP Morgan, Bloomberg, PineBridge Investments as of 19 January 2021. Asia IG Credit Spread represented by JACI Investment Grade Index. For illustrative purposes only. Any opinions, projections, forecasts, or forward-looking statements presented are valid only as of the date indicated and are subject to change. We are not soliciting or recommending any action based on this material. Past performance is not indicative of future results.
How are you positioned in the Asian IG market?
Slim: Our positioning reflects our expectation of more return dispersion this year. This will be driven by the diverging economic prospects within Asian countries as well as different outlooks for segments and idiosyncratic issuer risks. At the start of the year, we were overweight issuers from Singapore, Japan, and Australia relative to the benchmark. In Singapore, for instance, where the unemployment rate has been declining consistently3 and the vaccine rollout has proceeded smoothly, we expect a strong, albeit uneven, recovery for the year. With regard to our sector allocation, we have a smaller allocation to sovereign issuers, preferring instead corporates as demand recovers. More specifically, we like the financial and government-related sectors and avoid Covid-impacted sectors. Within financials, we are overweight nonbank financial institutions, which present more interesting valuations and steady fundamentals.
We also continue to have a substantial exposure to Chinese corporate bonds. This is the largest part of the Asian IG universe and one which we believe offers compelling investment opportunities. It is important to note that our positioning distills our investment process, which simultaneously analyzes fundamentals, valuations, and technical factors.
What potential risks are on your radar?
Slim: The dominant theme for this year will remain the pandemic’s impact on economic growth and credit metrics. More tangibly, the risks will be centered around the continued success of Covid-19 containment efforts, including medical breakthroughs and vaccine deployment.
We also continue to monitor closely US-China relations under the Biden administration. We are particularly cautious on duration risk as the recovery strengthens and US Treasury issuance increases. As always, we remain focused on monitoring individual issuers’ credit risks as well as environmental, social, and governance (ESG) factors that could be material to an issuer’s creditworthiness.
Last year, we saw a few pandemic-driven corporate defaults and sovereign downgrades. What is the outlook for these areas this year?
Lau: We believe the sovereign credit outlook will remain stable this year. As the Covid-19 recovery broadens across the region, it should be constructive for both sovereigns and corporates.
We expect the default rate in the broader Asian fixed income market to remain benign and to be the lowest among major regions.4 From our perspective, some of the defaults that attracted a lot of attention last year only highlighted the importance of credit differentiation. Among IG corporates, fallen-angel risk is likely to be manageable at approximately 4%.5
How do you see US-China trade relations evolving under President Biden?
Lau: In our base case, we don’t see a substantial change in US trade policy on China under the Biden administration. In the near term, it is likely to be status quo. We do not expect a rollback of the tariffs already imposed nor a substantial scaling back of restrictions on China’s information technology (IT) and technology, media, and telecom (TMT) activities. The future of the “Phase One” deal signed last year remains to be seen. China has fallen behind on its agreed purchases of US exports last year, largely due to the pandemic. We think President Biden will be more multilateral in his approach, working with allies to form a China strategy. Nevertheless, we continue to keep a close eye on US-China trade policy and its potential impact on the fixed income market.
How do you navigate across Asia’s trillion-dollar bond market? What should investors bear in mind?
Lau: There is no substitute to thorough credit research and credit selection. Our investment thesis favors greater issuer differentiation to find value opportunities in Asian bonds. For instance, there may be a downgrade at the sovereign level, but we can still find opportunities in more resilient sectors of that economy. At the core of PineBridge’s global fixed income organization is a team of credit analysts who are highly experienced in different sectors and markets. This deep sector knowledge is combined with on-the-ground insights to help us create a complete credit picture of the potential returns as well as risks. Having the agility to reposition our portfolio according to market conditions is also important, and may be harder to achieve through index tracking. Over the long run, the ability to navigate Asia’s changing economic, regulatory, and geopolitical landscape will also play a key role in investing successfully in this asset class.
1 JP Morgan, PineBridge Investments as of 31 December 2020
2 BAML, PineBridge Investments as of 30 June 2020. Any opinions are valid only as of the date indicated and are subject to change. For illustrative purposes only. We are not soliciting or recommending any action based on this material.
3 Ministry of Manpower as of 28 January 2021
4 Moody’s, PineBridge Investments as of 30 June 2020. Any opinions, forecasts, and forward-looking statements presented above are valid only as of the date indicated and are subject to change.
5JP Morgan, PineBridge Investments. Reported as of January 2021. Any opinions, forecasts. and forward-looking statements presented above are valid only as of the date indicated and are subject to change.
Investing involves risk, including possible loss of principal. The information presented herein is for illustrative purposes only and should not be considered reflective of any particular security, strategy, or investment product. It represents a general assessment of the markets at a specific time and is not a guarantee of future performance results or market movement. This material does not constitute investment, financial, legal, tax, or other advice; investment research or a product of any research department; an offer to sell, or the solicitation of an offer to purchase any security or interest in a fund; or a recommendation for any investment product or strategy. PineBridge Investments is not soliciting or recommending any action based on information in this document. Any opinions, projections, or forward-looking statements expressed herein are solely those of the author, may differ from the views or opinions expressed by other areas of PineBridge Investments, and are only for general informational purposes as of the date indicated. Views may be based on third-party data that has not been independently verified. PineBridge Investments does not approve of or endorse any re-publication or sharing of this material. You are solely responsible for deciding whether any investment product or strategy is appropriate for you based upon your investment goals, financial situation and tolerance for risk.