Invesco sees value in offshore renminbi bonds

Offshore Chinese bonds denominated in either renminbi or dollars represent one of the most promising opportunities for investors this year, argues a senior portfolio manager at US asset manager Invesco.

Ken Hu, Asia-Pacific chief investment officer for fixed income, last week pointed to the relatively higher yield of offshore investment-grade and high-yield Chinese debt compared to onshore issues, and voiced expectations that further mainland monetary easing would drive up prices.

The average yield for offshore investment-grade renminbi credit stood at 4.46% on November 30 last year and 6.45% for offshore dollar bonds (12-month forward hedged), versus 3.56% for onshore RMB bonds, by Invesco data*.

The average yield for offshore high-yield RMB bonds stood at 6.42% and 11.15% for dollar-denominated debt (12-month forward hedged), versus 4.35% for onshore credit**. These were the most recent figures Invesco provided.

Moreover, Hu said further cuts in China’s key policy rates would drive down onshore and offshore bond yields, which move inversely against bond prices, meaning now could be a potential buying opportunity for investors keen to capitalise on rising prices of securities.

Last year the People’s Bank of China cut rates by 25 basis points five times to bring the benchmark one-year lending rate to 4.35% and the one-year benchmark deposit rate to 1.5%. The central bank also cut the reserve-requirement ratio (RRR) – the minimum level of customer deposits that financial institutions must hold as reserves – by four times to an average of 17%.

Invesco forecasts that the country's RRR will be cut by a further 600bp this year, with an additional 50bp cut to the lending rate.

At the same time, Hu said capital outflow – China’s foreign exchange reserves are falling, dropping $108 billion in December alone – and home bias towards domestic names would equate to strong demand for offshore RMB bonds. As such, he argued that domestic investor interest in offshore bonds would persist until their yields converged with onshore paper.

“The likelihood of default of offshore China bonds remains very small, because issuers are mostly state-owned enterprises, which started deleveraging two years ago and cut their capital expenditure,” Hu noted.

He remains cautious on issuers in commodity-related sectors amid expectations of continued price declines, as China’s economy continues to slow and the dollar strengthens.

On fixed income across Asia ex-Japan, Hu said the biggest risk would come from commodity-exporting nations running a current-account deficit, such as Malaysia and Indonesia.

In respect of equities, Invesco has shifted its portfolio to be overweight developed markets and underweight EMs on concerns about slower export growth in dollar terms.

Paul Chan, Invesco’s CIO for Asia ex-Japan, noted: “Earnings growth in the US supports the outperformance of US equities, while share buybacks in Japan have surged, and we like dividend-paying names in a low-rate environment.”

He urged investors to avoid investing in major Asia ex-Japan indices, given that 75.5% comprise “old economy” stocks, such as utilities, telecoms, industrials, financials, energy and consumer-related names. The new economy refers to sectors such as information technology and healthcare.

Stocks in growth sectors such as consumer appear expensive. The MSCI AC Asia Pacific ex-Japan Small Cap Growth Index recorded an average price-to-earnings ratio of 27x as of end-December 2015, compared with 12.9x for MSCI AC Asia Pacific ex-Japan. “That is the challenge investors have to accept,” argued Chan.

Invesco had $756 billion in AUM as at the end of September, of which $56.3 (7.4%) was sourced from Asia-Pacific clients, according to AsianInvestor’s top 100 manager data set to be released soon.

* Offshore bonds represented by the HSBC Offshore RMB Investment Grade Corporate Credit Index, duration 2.6 years; US dollar bonds by the BoA-Merrill Lynch Asian Dollar Investment Grade Corporate China Issuers Index, five-year duration; and onshore credit yield by the three-year MTN AAA (locally rated) yield.

** Offshore high-yield RMB bonds represented by HSBC Offshore RMB High Yield & Non-rated Corporate Credit Index, duration 1.8 years; dollar bonds by BoA-Merrill Lynch Asian Dollar High Yield Corporate China Issuers Index, duration 2.6 years; and onshore high-yield credit yield by the two-year MTN AA (locally rated) yield.