Investment in a Minute - Navigating Shifting Currents in Asian Fixed Income Markets

“In Asia, this shift has taken a heavier toll on Asian currencies rather than on Asian bonds, underscoring a complex interplay between global rate dynamics and regional financial stability.”

- Low Guan Yi, Head of Asia Fixed Income 
 

For more information on the financial terms used in this article, please consult the glossary.

The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. The views expressed in this document should not be taken as a recommendation, advice or forecast. Past performance is not a guide to future performance. We are unable to give financial advice. If you are unsure about the suitability of your investment, speak to your financial adviser.

In the dynamic landscape of global fixed income markets, the first half of 2024 has been characterized by significant shifts, primarily due to the abrupt reversal of expectations for U.S. interest rate cuts, causing widespread increases in global rates. 

Interestingly, in Asia, this phenomenon has predominantly impacted currencies rather than bonds. The Bloomberg Asia Dollar Index reflects this trend, eroding its earlier gains and registering a 2.8% decline year-to-date as of 24 May 2024. In contrast, the iBoxx Asian Local Bond Index, when hedged against currency fluctuations, posted a 1.6% gain, buoyed by relatively stable regional interest rates and the ongoing bond carry.

USD-denominated Asian credits have also seen positive movements. Enhanced by robust corporate fundamentals and favourable supply-demand dynamics, these credits, as tracked by the JPMorgan Asia Credit Index, have improved, delivering a 1.8% return year-to-date. High-yield credits are particularly noteworthy, soaring by 9.1% as investors increasingly engage with risk amid a generally supportive credit environment. 

Fed Decisions and the Ripple Effect

Market anticipations have adjusted to forecast a single Federal Reserve (Fed) rate cut by the end of the year. Should the Fed decide to maintain the status quo, upward pressures on U.S. rates and the dollar could ensue, which in turn might deter Asian central banks from lowering their rates to maintain currency stability. 

Despite high domestic interest rates and a modest recovery in electronics exports, most Asian nations have reported steady real GDP growth for Q1 2024, both quarterly and annually, reducing the immediate need for monetary easing.

However, local factors could still prompt divergent policies. For example, monetary policy in China may further relax due to disinflationary pressures and ongoing challenges in the property sector. Similarly, we anticipate that the Bank of Korea might lower its rates once inflation aligns with its 2% target, potentially moving ahead of the Fed as it did in the previous rate hike cycle.

Our primary scenario assumes that the Fed will indeed reduce its policy rate in 2024 due to a significant reduction in U.S. inflation since its 2023 peak, possibly by 25-50 basis points by year-end, with additional cuts likely in 2025. Such actions could prompt lower interest rates across most Asian bond markets, with central banks in the Philippines and Thailand likely to follow suit. 

Navigating Asian Bond Markets

In anticipation of rate reductions by the Fed, we favour the Philippine and Thai local currency bond markets, which are poised to excel. The Philippines' central bank is well-positioned to support economic expansion toward a 6-7% growth target, provided inflation remains within the 2-4% range. Thailand’s central bank continues to face pressure to bolster growth as inflation rates linger near zero. 

Additionally, we see potential in Singapore and Malaysia, where bond yields are likely to track U.S. interest rates lower, and their currencies could benefit from a narrower interest rate differential with the USD. The Indian bond market also appears attractive due to high yields and the rupee's stability, especially with India's inclusion in global bond indices starting in June 2024. 

Asian USD credits should also continue to find favour among investors as their performance is likely to be supported by high all-in yields and limited supply of bonds. However, we are mindful that valuations are not cheap and would thus be more selective in our credit positioning, preferring short-dated carry plays and the more defensive names at the long-end of the curve.

Market Dynamics: Core Challenges and Currency Insights

Uncertainties regarding growth and inflation trajectories persist amid heightened geopolitical tensions and the forthcoming U.S. presidential election, which complicate the outlook for monetary policies and risk assessments. Moreover, rising trade protectionism necessitates a more granular, bottom-up approach in credit investments to account for the varying impacts on individual Asian firms.

For Asian currencies, much depends on the trajectory of U.S. interest rates, as well as the Chinese renminbi and Japanese yen. While further depreciation of the yen seems limited due to policy interventions by Japanese authorities, the renminbi may continue to face downward pressures. Nonetheless, the impact of renminbi fluctuations on other Asian currencies is expected to diminish and may even potentially outperform relative to the renminbi should our expectation of subdued commodity prices and a recovery in investment flows materialise.

The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. The views expressed in this document should not be taken as a recommendation, advice or forecast. Past performance is not a guide to future performance.