Asia fixed income: a bright spot for investors

This Q&A article was brought to you by Endowus in partnership with Eastspring Investments and Schroders.

The Asian fixed income market has grown significantly in size and sophistication over the last few decades.  Economic development has created an appetite for more financing options as companies look to expand within their own markets or move into new markets, and with governments pushing to enhance the infrastructure or social security in many countries. Accompanying this, the regulatory framework has been dramatically improved, lowering the hurdles for fixed-income issuers and providing protection for bond buyers.

Investing, too, has become much easier and accessible because of technology and better trading platforms.  Moreover, in the low interest-rate environment of the last decade, investors had been looking for higher yields in fixed income — this made emerging Asian markets like China or Korea an attractive option, especially compared to more mature economies like Europe or Japan. 

In addition, in the current climate of global economic uncertainty and following recent market turbulence, diversification is another reason Asian fixed income could appeal to investors looking to balance out their fixed-income and equity portfolios. The three-year correlation between the JP Morgan Asia Credit Index (JACI) and the Bloomberg Global Aggregate Index was 0.19, and the five-year correlation number was 0.18. These low correlation numbers indicate that the returns of the Asia fixed income are not as correlated with the global fixed income markets and therefore could be helpful in diversifying the sources of return and risk for a portfolio.

In fixed income, price developments (returns) are much more directly tied to macroeconomic factors than those in equities. Besides considering the credit quality of the issuer, investors should also keep in mind how their fixed-income investments respond to changes in the overall economic outlook, inflation, and interest rates. 

To this end, investors could benefit from understanding fund managers' thoughts on the market, which countries and sectors in fixed income could have attractive prospects, and what to expect — so that the investors may make more informed decisions on their investments.

We ask Hilda Cheong, Product Manager, Fixed Income - Asia, at Schroders; and Danny Tan, Head of Fixed Income from Eastspring Investments, for their views on Asia fixed income.

Asia fixed income outlook

Q: What is the outlook for the Asian fixed income market in 2023?

Danny (Eastspring): We have a more constructive outlook for Asian fixed income markets in 2023 as the bulk of the Fed’s rate hikes are behind us and all-in yields are more attractive than they have ever been in 10 years — the JP Morgan Asia Credit Index (JACI) yield to maturity (YTM) is currently 6.6% — despite having come off sharply from the high of 8% since late 2022. 

This makes Asian investment-grade (IG) bonds particularly attractive. We think it is the sweet spot, considering the uncertain outlook for the US in the later part of this year due to rising interest rates (potentially causing funding costs to bite into corporate profits) and its global impact on growth.

Hilda (Schroders): As many of 2022’s headwinds begin to ease, we enter 2023 with an optimistic outlook for Asian credit. All-in yields have repriced significantly over the last year, bringing Asian credit valuations to highly attractive levels relative to historical averages as well as to their developed market (DM) or emerging market (EM) peers. Amid the current banking turmoil, Asian credit has also held up well compared to DM regions. At around 6.7% of yields, the asset class now offers compelling coupon carry and a healthy cushion for potential downside risks and volatility. This year, we expect the Asian credit market to be lifted by supportive technicals, appealing valuations, and China’s reopening story. Particularly for investment grade (IG), the segment’s resilient corporate fundamentals support stable income generation and good risk-return potential.

Judging from previous slowdown phases, bonds typically start to perform well when investors adjust to a weaker growth outlook, consequently creating a stronger backdrop for Asian credit.

Opportunities in Asian IG, SGD new issuances

Q: Which Asia fixed income sector and/or region do you see the best opportunities for investors this year?

Danny (Eastspring): We think the Singapore dollar (SGD) new issue space is attractive in view of the quality of the issuers — highly rated banks from Australia and Europe, as well as local Singapore banks — where they are raising subordinated debt at yields between 5-6% for AA to single A rated banks. Banks tend to benefit from a rising interest rate environment, and so margins will improve as interest rates rise. 

These banks are also systemically important banks. They are likely to be well-positioned to weather through a recession scenario, if one were to pan out in the later part of the year as rate hikes start to slow the US economy and potentially tip it into a recession.

Hilda (Schroders): Against slowing global growth, we like Asian investment grade (IG), considering its quality tilt, strong fundamentals, and good downside protection against any further spike in yields or volatility. Yielding about 5.7%, the segment offers compelling risk-adjusted income and capital upside potential should bond yields head lower. Valuation is further supported by resilient fundamentals and improving rating trends within IG corporates. With investor positioning light and supply low, we expect technical factors to remain healthy as investors seek refuge in the more defensive segment of the market. Within IG, our preferred sectors include financials, higher-quality sovereigns and selected Chinese technology and industrial names.

While we anchor our portfolios with high-grade credit, we do see increasing opportunities in high yield (HY) along with China’s reopening and improved market sentiment. That said, selectivity is key as idiosyncratic risks and volatility may remain elevated against a higher-for-longer backdrop and recent troubles in the banking sector. Specifically on China HY property, we stay cautious and limit exposures to only the strongest players. Meanwhile, sectors such as Macau gaming, and selected Mainland China and Hong Kong SAR corporates are expected to benefit from the normalisation of economic activity and mobility in China.

Risks in Asia fixed income

Q: What are the biggest risks in Asian fixed income, how can investors avoid them?

‍Danny (Eastspring): We think the biggest risk is if China’s economy fails to rebound on its reopening — its target gross domestic product (GDP) growth is at 5% — and if this in turn is not able to offset a hard landing recession scenario in the US (current IMF forecast for 2023 is 1.4%). This will lead to a global slowdown that is much faster than markets anticipated. 

Currently, it does seem remote, as more recent data shows that China’s recovery is on track. Nevertheless, being positioned in investment-grade bonds will provide better protection in the event that global growth and outlook were to disappoint.

Hilda (Schroders): The recent strength in US growth and inflation suggests a potentially higher-for-longer rate environment which may lead to increased refinancing risks for some high-yield (HY) issuers. Careful bottom-up credit selection with a keen focus on liquidity, debt, and cashflow positions will thus be important in identifying issuers that can withstand higher rates for a more sustained period of time. 

With China forming a large part of Asian credit, policy uncertainty and geopolitical tensions are key risks worth keeping a close watch on. Within China credit, we prefer sectors where peak regulatory uncertainty is likely behind us (e.g. technology) as the companies within would have adjusted to a new regulatory regime. Separately, issuers with more domestically oriented business models may be less exposed to geopolitical tensions and also expected to benefit from China’s reopening.

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This article was brought to you by Endowus in partnership with Eastspring Investments and Schroders.

Eastspring Investments, part of Prudential plc, is a global asset manager with Asia at its core. Eastspring is supported by 300+ investment professionals across 11 major Asian markets and distribution offices in North America and Europe, with a total of US$222 billion assets under management (as of 30 June 2022) on behalf of institutional and individual investors globally.

Endowus has three funds from Eastspring (as of 3 Apr 2023), including the Singapore Select Bond Fund and the Asia Sustainable Bond Fund.

As a global investment manager, Schroders recognises its role in shaping the futures of all its stakeholders. Commitment to delivering positive outcomes for clients, employees and wider society lies at the centre of the firm’s culture. Schroders actively and responsibly manages US$887.2 billion (as at 31 Dec 2022) of wealth and investments for a wide range of institutions and individuals to help meet their financial goals.

Endowus has 10 funds from Schroders (as of 3 Apr 2023), including the Asian Investment Grade Credit Fund and the Global Quality Bond Fund.

‍Get started building your own portfolio with these funds on the Endowus Fund Smart platform. 

Read more:

• Singapore bonds: A low risk diversifier amid uncertainty
• Market regime shift and Asia fixed income

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