Traditionally, a rising rate environment is unfavourable for fixed income assets, as it results in falling bond values. Fixed income investors seeking both price appreciation and a stable stream of income have to navigate the market more skillfully than usual.
That could involve positioning in segments of the bond market where credit quality is more resilient and durations are shorter.
These include US dollar-denominated Asian investment grade (IG) bonds, which consist of the highest rated bonds in the market. Such bonds remain attractive for income-seeking investors as they offer better yield than IG bonds in the US and the Global Aggregate Index.
The duration of Asian IG bonds also tends to be shorter, which indicates that they have lower sensitivity to rising rates and thus, their values may fall less than peers.
“Essentially, what one is getting with Asia IG bonds is higher yield and higher credit spread differential with less interest rate risk, which is important in a market with growth challenges and rising rates,” says Mr Omar Slim, managing director, portfolio manager, fixed income at PineBridge Investments.
The persistent volatility in equity markets also makes fixed income an asset class worth exploring despite rising rates. In particular, analysts expect Asia IG bonds to continue to perform strongly this year despite global macro headwinds as the region’s economies progressively reopen.
“Broadly speaking, credit metrics in Asia, such as corporate net leverage, have remained relatively low compared to US, Latin America, and other emerging markets, while interest coverage ranked highest relative to these three regions. That, along with a stable Asian investor base, should anchor credit spreads,” says Mr Slim.
In terms of diversification, Asia IG bonds offer historically a higher Sharpe ratio than US IG credit, US inflation-linked, and global equities (based on five-year total returns). The higher Sharpe ratio suggests that Asia IG compensates the investor better (in terms of total returns) for each risk unit of the investment.
Asia IG bonds also offer exposure to China, other North Asian countries and the rising economies of ASEAN that remain underrepresented in global bond indexes; and as such would not be as present in the portfolios of asset managers that adopt an indexing approach.
Given the dispersion of returns in the Asia IG market, active investing allows portfolios the flexibility and control to select individual bonds for metrics beyond yield or market capitalisation, but also a host of material factors, including credit quality, and environmental, social and governance (ESG) risk.
From a technical perspective, Mr Slim notes that the growing money pool in Asia is chasing a relatively small volume of Asia IG bond issues; net issuance – gross issuance minus the debt maturities, redemptions, and the coupon payments – is expected to remain low for some time while the primary markets are in flux. This, in turn, will help dampen the volatility of the market. “So broadly, all of those factors, whether it’s fundamentals, the valuation, or the technicals, continue to push investors to look at this market.”
A rigorous investment approach
IG bonds make up 80 per cent of the Asia bond market, with a diverse mix of sectors, markets, and ratings.
PineBridge leverages this opportunity set through its flagship PineBridge Asia Pacific Investment Grade Bond Fund, which seeks to provide investors with stable return and long-term capital growth. The fund gives investors a pure Asian IG exposure, with no sub-IG bonds whatsoever. The fund utilises an active research-based credit selection process implemented by an award-winning fixed income team, which has a zero-default track record.
While investing in some of the highest rated bonds in the market may be inherently exposed to low default rate, the portfolio’s holdings are robustly assessed for their ESG risks.
Says Mr Slim: “ESG is a key part of our investment process. We systematically analyse issuers using our in-house ESG framework that is based on the UN Principles for Responsible Investment.”
Volatility may continue to test investors’ patience, but a portfolio of high-quality Asian bonds may tick all the boxes for risk-conscious investors wanting better returns in current markets.
Click here to find out more about the PineBridge Asia Pacific Investment Grade Bond Fund.