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Business Desk

The Star

Publication Date : 04-02-2013

Asian bonds would continue to provide investors with more attractive yields compared with developed market bonds, while fundamentals of Asian economies and corporates remain relatively sound.

Eastspring Investments, in a report on the viability of bonds as an attractive income option, stated that credit spreads of Asian US dollar-denominated bonds were still above their lows, reflecting room for potential spread compression, which could support bond prices and mitigate the impact from the potential modest increases in US risk-free rates.

Unlike the developed markets, countries like Malaysia and the Philippines had positive real interest rates.

“We believe the attractiveness of the Asian bonds are also continuing to find ground among investors, as reflected by the strong inflows into the Asian bond markets in the past years,” it opined.

It expects 2013 to continue technical support for Asian bonds, given the persistently strong demand by institutional investors, which include insurance, central banks and sovereign wealth funds, as they diversify away from the lower-yielding fixed-income holdings.

In the same statement, it said structural shift of retail investors towards emerging and Asian bond markets would continue, given their current low allocation to this region and the ongoing need to enhance yields for their fixed-income portfolio in today's low interest rate environment.

“Interest rate movements have less of an impact on this asset class than investment-grade credit since investors are compensated more for taking on additional credit risk,” it said.

Meanwhile, it said both in Asia and the United States, there was little need for high-yield companies to refinance in 2013, given manageable maturity schedules and the amount of refinancing that had been done since the 2008 financial crisis. High-yield companies had shored up their balance sheets and fundamentals remained intact.

Going forward, interest rates globally had declined significantly over the past three to five years and room for further capital appreciation could be more limited, it noted.

However, it said investors should bear in mind that as the global economy faced an extended period of fiscal consolidation and structural rebalancing, business cycles were in a “new normal” of lower average growth.

“Therefore, we believe that bonds should remain a part of a diversified investment portfolio and the benefits are best achieved over the longer run rather than attempting to time the market,” it pointed out.

According to the same report, many challenges still remained for the global economy as US growth remained sluggish, the Eurozone continued to contract and China was entering a slower growth era as the economy matured and growth drivers rebalanced from exports to domestic consumption. Furthermore, upcoming event risks such as polls in Germany and Italy and the US debt ceiling were likely to challenge the current bullish sentiment.

Despite that, it said China was not heading towards a hard landing, as the US housing market was showing signs of recovery and the unemployment rate had been decreasing. A series of policy measures, including the latest bond-buying scheme, had alleviated default fears by eurozone nations.

It expected US growth to remain below trend in 2013, following the three rounds of quantitative easing and other policy measures to prevent a more prolonged downturn from the effects of the 2008 global financial crisis.

Equally, the US government had chalked up huge amounts of debt through these measures, which had not even begun to be unwound unless the next round of fiscal cliff negotiation in March resulted in substantial spending cuts by the government.

“Judging from the still-high level of unemployment rate of 7.7 per cent and the pressing need to bring down government debt levels, the fundamental picture of the United States remains soft and the likelihood of aggressive policy rate increases in the next two years remain low,” it said.

However, it added that instead of focusing on the interest rate forecasts (which is inherently difficult to do, particularly given the heavy intervention of policy makers in the current environment), it suggested the characteristics of bonds as a tool to provide investors with a source of steady growth over time should be considered.

“While bond prices are subject to risks of interest rates rising, volatility from investing in bonds is generally still much lower than equities.

“It is also important to remember that a rise in rates would ultimately mean higher coupon reinvestment for investors from new bond issues despite suffering short-term losses on existing bonds,” it noted.

For corporate bonds, it said the potential capital loss from interest rate increases would at least be offset in part by the higher coupon rates compared with government bonds, as well as potential credit spread tightening, as investors felt more confident about the macro environment and corporate profitability.