Investment in a Minute - Expect Asia Fixed Income to Remain Supported

Recent developments in the Asian bond markets

Over the past three months we have witnessed a sharp turnaround in investor sentiment. Asian USD and local currency bond markets have surged by 10.4% and 13.7% respectively since November, representing the strongest three month gain^[1] in more than a decade and outperforming developed market bonds.

The turnaround in sentiment is also evident from the surge in portfolio flows into emerging markets since the new year started. The performance across Asian bond markets has been bolstered by growing expectations of a Fed pause this year as inflation pressures moderate. Across Asia the monetary policy stance has shifted towards being less hawkish too. We now expect most Asian central banks to end rate hike cycles this quarter.

Add China into the mix, with its surprise reopening in December and the step-up in policy support for the property sector, which has increased growth optimism, resulting in China’s high yield property bond prices more than doubling over the past three months.

Risks for investors to keep in mind

This “sugar rush” over the past three months seems a little too heady to us, especially in view of lingering uncertainties.

Firstly, while inflation rates are likely to moderate partly due to base effects, there are signs of lingering price pressures. Expectations for a recession in the West are being increasingly dialled back amid resilient private sector spending and this could lead to disappointment on the disinflationary narrative ahead.

Investors navigating the Asian bond markets need also be mindful of the domestic and idiosyncratic factors that may result in a divergence in performance. For example, while China property credits have rallied hard on the back of policy easing, there could still be selected defaults as we have seen with Times China when it missed its offshore coupon payment in January this year. Property sales in China remain lacklustre even as the latest high frequency economic data points to a steep pick up in domestic consumption, while refinancing needs of Chinese property developers remains elevated in 2023.

Elsewhere, the sharp correction of bonds issued by various Adani entities following the release of a short-seller report on the Indian conglomerate also serves as a reminder of idiosyncratic risks in the markets, although their spill over impact on the broader markets is likely to be manageable for now.

Your strategy in navigating the market

We retain our view that Asian bond and currency markets should remain well supported this year. The all-in yields of Asian USD credits are still at attractive levels relative to history with current average yields of around 5-6% providing an attractive source of carry. Asian domestic bonds should also benefit from an earlier cessation of central bank hikes, while favourable domestic real interest rates versus US/Europe could still attract inflows and lift Asian currencies further.

However, we acknowledge that valuations are generally less attractive following the sharp rally in the last three months, and room for further gains is likely to be more limited from here.

We are therefore more selective and cautious in timing our entry to risk positions. We would look to increase our duration positions in our portfolios during periods of upward yield retracement in treasuries. While within credits, we would be biased towards investment grade offerings which have lagged the broad market rally and compensate us sufficiently for credit risks.

^[1] JPMorgan Asia Credit Index and Markit iBoxx Asian Local Bond index, in USD.