Debt managers raise Asia exposure, but flag risks

Fund houses are raising exposure to riskier fixed income assets to boost returns on the back of moves by Europe, the US and Japan to stimulate their economies. But despite their general bullishness on Asian debt, they also sounded notes of caution.

Both Aviva Investors and Schroder Investment Management confirm they have been allocating more to emerging market debt, both corporate and sovereign, and have been investing in lower-rated bonds in order to obtain more yield.

Executives from those and other fund houses were speaking in a panel debate at AsianInvestor and FinanceAsia’s inaugural Southeast Asian Debt Investor Forum in Singapore yesterday.

Rajeev de Mello, head of Asian fixed income and co-head of EM bonds at Schroders, says: “In light of the policies we’ve seen from central banks recently, we’ve increased the risk of all fixed-income portfolios; we’ve moved more into corporate and EM debt and down the rating scale, and also increased our currency exposure.”

He stresses this is a long-term view. “We feel the effect of the central banks’ actions will be ongoing; the Fed will start buying $40 billion in US mortgage-backed bonds every month as long as the labour market doesn’t show significant improvement.”

De Mello concedes there can be a negative side to easing moves by the European Central Bank and the Federal Reserve, but that “at the moment we see a calming effect that makes us more confident”.

Asian and global high-yield bonds have been performing well and that is likely to continue, says Tim Jagger, Asian fixed income PM for Aviva Investors who manages high-yield and investment-grade credit out of Singapore.

In addition to moves by the ECB and Fed, Japan’s decision to boost its quantitative easing programme this week will further underpin the asset class, adds Jagger, who says his firm has been moving “down the credit scale and increasing risk”.

“We buy local-currency bonds, and the cost [of doing so] can be quite high, so we have to like both the credit and currency components.”

One of the biggest trends in EM debt this year has been the rising demand for corporate debt, agrees Owi Ruivivar, Singapore-based senior portfolio manager for EM fixed income at Goldman Sachs Asset Management. GSAM manages $30 billion in EM debt globally, making it one of the biggest players in this space.

The demand has come either from pension funds increasingly moving portfolios into EMs or from insurance companies, which typically invest in non-EM investment-grade debt, “leap-frogging” into the asset class, says Ruivivar.

It is in around two dozen EM countries forming some 5-6% of the JP Morgan EM bond index where managers can look to add alpha in their sovereign debt portfolios, she notes.

Her main concern about Asian financial markets, in particular fixed income, is the scarcity of assets – something that has also been flagged by entities such as the International Monetary Fund and the Bank for International Settlements.

Ruivivar points out that, globally, developed-market pension assets total some $30 trillion, while EM debt amounts to $2.5 trillion (based on JP Morgan EMD indices), with Asia sovereign and credit debt totalling $1.8 trillion (based on HSBC and JP Morgan Asia fixed-income indices).

Only 2% of the DM pension assets is sitting in EM debt, she adds, “so there is a potentially massive inflow to come [into EM debt] simply because of this huge under-allocation”.  In short, every 1 percentage point increase of DM pension AUM flow would mean $300 billion moving into a $2.5 trillion market.

Such a large sum of money flooding into such a shallow pool significantly complicates macroeconomic policy for these EM countries and will have a major effect on their markets.

Hence the importance of being selective, assessing where the true value is and not merely judging them by potential growth there, says Ruivivar.

Bond issuance is increasing swiftly, particularly from corporates, note the panellists. Yet if Asian corporates and sovereigns were to overdo it in terms of issuance, that could bring its own problems, says De Mello. The situation could be better, he adds, “but if they swamp us with debt, we could get indigestion from it”.

Chris Siniakov, head of Asian fixed income at Deutsche Asset Management, agrees that demand has been unstable and that regulators are well aware of the dangers of hot-money flows.

Larger and more sticky demand would help Asia's debt markets to develop, he adds. There has been strong collaboration between countries with regard to harmonising standards of issuance and settlement processes, among other things.