Asian Short Duration Bonds: One of the ways to put your cash to work

13 June 2023

Murray Collis, Chief Investment Officer, Fixed Income (Asia Ex-Japan)

Alvin Ong, Head of Fixed Income, Singapore

Esther Koon, Portfolio Manager, Asia Fixed Income

Over the past two years, surging inflation and rising interest rates have presented investors with challenges and opportunities. As the macro landscape evolves in 2023, many are looking for investment options to put their excess cash to work. In this investment note, Murray Collis, Chief Investment Officer, Fixed Income (Asia Ex-Japan), Alvin Ong, Head of Fixed Income, Singapore, and Esther Koon, Portfolio Manager, Asia Fixed Income, explain how short-duration Asian bonds can be an attractive option – offering a competitive yield, the potential for long-term capital appreciation, and a lower volatility profile relative to other fixed-income investments.

After a tumultuous 2022 punctuated by surging inflation and interest rates, we believe that fixed-income assets are nearing an inflection point.

Indeed, the US Federal Reserve (Fed) has raised the federal funds rate to a range of 5.00%-5.25% since March 2022, while 10-year US Treasuries have shown great volatility, rising roughly 225 basis points (bps) since the start of last year. As a result, fixed income posted negative returns in 2022, prompting many investors to place their excess cash in bank deposits to escape market volatility.

Evolving macro landscape offers an attractive entry point for fixed-income investors

However, the global macro landscape is changing. Inflation in the US has gradually decelerated but remains high in 2023: from 6.4% (year-on-year) in January to 4.9% in April. Fed Chair Jerome Powell also recently stated that continued volatility in the nation’s banking sector might further tighten credit conditions, via lower lending levels, allowing the US central bank to halt rate increases at a lower level than previously envisaged.

While the Fed monetary tightening cycle might not be over, we believe that we are closer to the end of the cycle than we are to the beginning. Furthermore, the potential upcoming pivot in Fed policy offers opportunities for fixed-income investors.

Interest rates should remain higher over the short term due to sticky inflation that remains above the Fed’s target of 2%. Yet, significant additional rate hikes seem unlikely amid lower inflation, as well as first-quarter GDP and recent monthly retail sales data that suggest a decelerating US economy.

Thus, fixed-income investors have an attractive entry point: they receive current elevated yields, while also potentially benefitting long-term from capital appreciation if interest rates gradually move lower. In contrast, bank depositors may face reinvestment risk to achieve the same level of returns once their deposits mature after the Fed’s pivot.

With this changing macro backdrop in mind, investors would be well-served to understand how Asian short-duration investment-grade (IG) US-dollar bonds (USD bonds) can maximize opportunity in the current environment.

The advantages of Asian short-duration IG USD bonds

There are benefits to investing in Asian USD bonds. With our strategy primarily focusing on Asian short-duration (0-3 years) IG corporate bonds, we will explore the advantages of this bond category.

Credit risk can be mitigated by Asia’s stable macroeconomic environment: On the fundamental side, investors are rightly concerned about the credit quality of fixed-income investments in the current uncertain macroeconomic environment. We believe Asian USD bonds are arguably well positioned to navigate market volatility due to the region’s economic strength, which may help support corporate cash flows and profitability.

Indeed, the IMF recently upgraded its growth forecast for Asia-Pacific economies to 4.6% - the fastest rate among regions globally. Moreover, China and India are estimated to account for roughly 50% of global growth in 2023, while the region should compose around 70%. This should provide ample support for Asia’s corporates, particularly as China’s economic reopening may offer positive spillover effects to Asian economies in a varying degree, such as trade and tourism channels.

High-quality regional companies with deep market liquidity: We believe many high-quality regional companies choose the Asian USD bond market to reach international investors, diversify their borrowing portfolio, and tap deeper capital markets. Because these bonds are USD denominated, their market fundamentals are tied to generally more stable US interest-rate dynamics rather than local-currency markets.

Arguably, the asset class also boasts a high level of liquidity, particularly for emerging markets. Over the past five years, the USD bond market in Asia has surpassed USD 1 trillion¹, making it one of the most liquid fixed-income markets globally.

A potentially lower volatility profile versus peers: Although emerging-market debt generally possesses a volatile risk profile, Asian USD bonds, especially short-duration IG bonds, may benefit from two factors that could dampen overall risk.

First, the emergence of a robust regional institutional investor base provides demand for USD bonds and a potential secondary cushion for prices during risk-off periods. Indeed, over the past ten years (2014-2022), regional investors accounted for roughly 70% of Asian USD bond allocation² - the largest buying segment of the asset class.

At the same time, if US Treasuries remain volatile due to Fed policy, the short-duration focus may make performance more resilient.

This is because shorter duration bonds are less sensitive to movements in interest rates. Asian short-duration IG USD bonds traditionally have a lower duration profile than the general Asian and global bond universes (see Chart 1). They also possess only marginally higher volatility (1.2% versus 0.9%) than global short duration IG bonds over the past decade.

Chart 1: Asian short-duration bond profile has dampened volatility over the past decade

Source: Bloomberg, as of 31 March 2023. Asian short duration IG bonds represented by JACI Investment Grade 1-3 Year Total Return Index. Global bonds represented by Bloomberg Barclays Global Aggregate Bond Index. Asian Bonds represented by JACI Composite Total Return Index. Global short duration IG bonds represented by Bloomberg Barclays Global Aggregate 1–3-year Bond Index. Past performance is not indicative of future results. It is not possible to invest directly in an index.

Historical comparable yield premium and attractive returns over peers: Historically, investors in Asian IG USD bonds have received a spread premium over those holding US IG corporate debt (see Chart 2). As of 31 March 2023, the premium was 60 bps, with an average over the past 10 years of 83 bps. The premium means that investors in Asian IG USD debt effectively receive a higher yield for holding companies with roughly the same credit profile and risk level as their peers.

Chart 2: Asian IG historical spread premium over US IG

Source: Bloomberg, BofA Merrill Lynch and JP Morgan indices. as of 31 March 2023.

From an overall performance perspective, investors should not only pay attention to yield, but also to an asset class’s total return over time.

Versus global short-duration bonds: Asian short-duration IG bonds have outperformed their global peers on an annualised basis for the past decade (see Chart 3). This is supported by the relatively higher yields and coupons offered by Asian short-duration IG bonds compared to global corporates.

Versus bank deposits: While investors have utilised bank deposits over the past two years to shelter from market volatility, the Fed’s changing monetary policy stance may put this strategy at risk. Indeed, research indicates that current USD three-month (promotional) time deposits in Singapore earn roughly 3.7% versus a yield-to-maturity of 5.6% for Asian short-duration IG USD bonds³.

With the market’s expectation for a Fed pause in rates over the near-term and potential cuts over the longer term, investors may face significant reinvestment risk when deposits mature at potentially lower interest rates in the future.

Chart 3: Asian short-duration IG performance versus global peers

Source: Bloomberg, 30 June 2012 to 30 June 2022. Asian short duration IG bonds represented by JACI Investment Grade 1-3 Year Total Return Index. Global short duration IG bonds represented by Bloomberg Barclays Global Aggregate 1–3-year Bond Index (hedged USD). Past performance is not indicative of future results. It is not possible to invest directly in an index.

2023 Outlook: Constructive on national champions, China credit

For the remainder of 2023, we are constructive on national champions and credits in China:

National champions: The significant percentage of state-owned enterprises (SOEs) is a unique feature of the Asian IG bond universe. SOEs tend to have more stable cash flows and market positions due to their ties to the government, while offering lower volatility at attractive yields. Also, new issuance activities from private national champions, such as the banks and electric vehicle battery producers, have picked up in 2023 providing further opportunities.

China credits: With China’s reopening continuing, we remain constructive on the country’s credits. While we do not expect a ‘V-shaped’ economic recovery, over time, we believe the country’s reopening should support domestic companies and those particularly in Southeast Asia, which could benefit from a pickup in trade and tourism activities.

Conclusion

Over the past two years, investors looking to earn returns on excess cash have primarily chosen bank deposits to escape market volatility. Moving forward, we believe that changes in the macro landscape, particularly a Fed policy pivot, may offer more profitable options.

Indeed, Asian short-duration IG USD bonds offer a competitive yield and may provide capital appreciation upside over the long term when rates gradually move lower. Coupled with a lower volatility profile and exposure to stable regional macroeconomic fundamentals, we believe investors should pay greater attention to the benefits of the asset class in the current market environment.

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1 The USD $1 trillion market is primarily composed of investment-grade (84%) credits, but also includes high-yield (16%).

2 Manulife Investment Management Research.

3 Manulife Investment Management Research. Rate quoted applies to USD deposits exceeding USD 3 million. YTM taken from JACI IG 1-3 years Index as of 31 March 2023.

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Certain sub-funds with significant exposure to Renminbi (“RMB”) bonds/equity/assets or emerging markets, may involve debt instrument, credit/counterparty, concentration, liquidity, volatility, currency, tax, economic, foreign exchange/multi-currency conversion, down-grading, regulatory and political risks and these risks could be substantially higher than the risks normally associated with the world's more established markets.
A bond sub-fund may hold a significant portion of assets in deposits if there are not sufficient RMB instruments for it to invest in. This may adversely affect its return and performance.
Certain sub-funds using invest directly in debt instruments/shares via QFII regime, the Bond Connect and/or the Foreign Access Regime are subject to various requirements and restrictions under the laws of Mainland China related to investment in QFII and/or China Interbank Bond Market and custodial risks.
RMB is not freely convertible and is subject to exchange controls and restrictions.
Certain sub-funds may have significant concentrated exposures to particular industry sectors and geography's, which subjects investors to concentration and equity market risk.
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The funds do not guarantee distribution of dividends, the frequency of distribution, and the amount/rate of dividends. Dividends may be paid out of capital and/or out of gross income of certain funds in respect of Inc classes, while charging/paying all or part of certain funds’ fees and expenses to/out of capital of certain funds. This represents a return or a withdrawal of part of an investor's original investment amount or capital gain attributable to that amount. Distributions will result in an immediate decrease in the net asset value of the relevant units. Class AA (RMB) Inc Hedged Unit of certain funds is subject to higher distribution risks than other non-hedged unit classes.
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General Risk Disclosure

Funds offered on this platform may invest in equity, fixed income securities, exchange-traded funds, collective investment schemes and/or other instruments, including derivatives, and each of which has its specific investment objective/ policy with its specific features and different risk profile.
Distribution of dividends, the frequency of distribution and the amount/rate of dividends are not guaranteed. Dividend of certain share/unit classes, at the fund or the investment manager’s discretion, may be paid out of capital or gross income while charging / paying all or part of its fees and expenses out of its capital. This amounts to a return or withdrawal of part of an investor’s original investment or from any capital gains attributable to that original investment, and may result in an immediate reduction of the net asset value per share/unit of the respective share/unit classes after the distribution date.
Some funds may invest in bonds or debt securities which may be subject to credit, liquidity, counterparty and market risks.
Some funds may invest in non-investment grade bonds and unrated securities which may be subject to greater credit and liquidity risks, and may be more volatile than higher rated securities. Some funds may invest in investment grade debt securities, which may be subject to ratings downgrades by the rating agencies that may affect the net asset value of the fund.
Some funds may invest in derivative instruments which may involve additional risks. (For example, leverage may cause greater volatility.)
Some funds may make extensive use of derivatives including more complex derivative instruments or strategies to achieve the investment objective, this may give rise to additional exposure in that performance may rise or fall more than it would have done otherwise. In adverse situations, the fund’s use of derivative instruments may become ineffective and the fund may suffer significant losses. The use of derivatives may give rise to leverage, liquidity, counterparty and valuation risks.
Some funds may invest in emerging economies or markets, where special risks, including liquidity, volatility, government policies, taxation, currency, currency repatriation, political and regulatory risks, may be substantially higher than the risks normally associated with more developed economies or markets.
Some funds may invest in securities of small and/or medium sized companies in the relevant markets. This can involve greater risk than is customarily associated with investments in larger and more established companies.
Some funds may invest in a single country/region and/or a particular industry sector which may be concentrated and subject to greater risks than diversified investments in several countries and/or regions and across sectors.
Some funds may invest directly in certain China A shares via the Stock Connect, which may involve risks related to investments via the Stock Connect and Mainland China investment.
Some funds may have significant exposure to Renminbi ("RMB") bonds/equity/assets or emerging markets, which will be subject to debt instrument, credit/counterparty, concentration, liquidity, volatility, currency, tax, economic, foreign exchange/multi-currency conversion, down-grading, regulatory and political risks and these risks could be substantially higher than the risks normally associated with more established markets.
Some funds with significant exposure to RMB bonds/equity/assets may hold a significant portion of assets in deposits if there are not sufficient RMB instruments to invest in. This may adversely affect the funds’ return and performance.
Some funds using Qualified Foreign Institutional Investor (“QFII”) quota to invest directly in debt instruments/shares in Mainland China may be subject to various requirements and restrictions under the laws of Mainland China related to QFII investment and custodial risks.
Some funds are subject to the risks of investing in other funds and the risks relating to asset allocation strategy and/or downside risk management process.
As RMB is not freely convertible, currency conversion is subject to exchange controls and restrictions. There can be no assurance that RMB will not be subject to devaluation. Insufficient amount of RMB for currency conversion or devaluation of RMB could adversely affect the value of investors’ investments in the RMB denominated class(es) of certain funds. The “Dim Sum” bond market is still a relatively small market which is more susceptible to volatility and illiquidity. Due to RMB concentration risk, the value of the funds with substantial RMB exposure may be more volatile than that of a fund having a more diverse portfolio of investments.
Some funds’ performance will be closely tied to the economic, political, regulatory, geopolitical, market, currency or other conditions in the European Economic Area and may be subject to increased liquidity, price, and foreign exchange risk.
Some funds may invest in Russia and some investments in Russian securities may be unlisted securities not dealt on a regulated market. The Russian market presents specific risks in relation to the settlement and safekeeping of securities.
Investment involves risk. Investors may expose to capital loss and should not invest solely based on the information on this website alone and should read the offering documents for details including the associated risk factors, charges and features of the funds and their share/unit classes. Past performance information is not indicative of future performance.

Manulife Global Fund

Manulife Global Fund is an umbrella fund comprising a number of sub-funds investing in equity and/or fixed income securities, each of which has a different investment objective and risk profile and may involve equity market, geographical concentration, sovereign debt, liquidity, volatility, credit downgrade, interest rate, counterparty risks. Certain investors may also be subject to the risk relating to RMB hedged share class.
The relevant distributing class of the sub-funds does not guarantee distribution of dividends, the frequency of distribution and the amount/rate of dividends. Dividends may be paid out of income, realized capital gains and/or out of capital of certain sub-funds in respect of Inc share class(es). Dividends may be paid out of realized capital gains, capital and/or gross income while charging all or part of their fees and expenses to capital (i.e. payment of fees and expenses out of capital) in respect of MDIST (G) and R MDIST (G) share class(es). Dividends paid out of capital of these sub-funds amounts to a return or withdrawal of part of the amount of an investor’s original investment or from any capital gains attributable to that original investment and may result in an immediate decrease in the net asset value per share in respect of such class(es) of the sub-funds.
Certain sub-funds invest in emerging economies or markets, where special risks, including liquidity, volatility, government policies, taxation, currency, currency repatriation, political and regulatory risks, may be substantially higher than the risks normally associated with more developed economies or markets.
Certain sub-funds invest in securities of small and medium sized companies in the relevant markets. This can involve greater risk than is customarily associated with investments in larger and more established companies.
Certain sub-funds concentrate their investments in a single country and/or a particular industry sector are subject to greater risks than diversified investments in several countries and/or regions and across sectors.
Certain sub-funds may invest directly in certain China A shares via Stock Connect, which may involve in risk related to Investments via Stock Connect and Mainland China investment.
Investment involves risk. The sub-funds may expose their investors to capital loss. Investors should not invest solely based on this material and should read the offering document for details including the risk factors, charges and features of the sub-funds and their share classes.
Each sub-fund intends to use financial derivative instruments (“FDIs”) for investment, efficient portfolio management and/or hedging purposes. The use of FDIs exposes the Fund to additional risks, including counterparty/credit risk, liquidity risk, valuation risk, volatility risk and over-the-counter transaction risk.
Given RMB is currently not a freely convertible currency, payment of redemptions and/or dividend payment in RMB may be delayed due to the exchange controls and restrictions applicable to RMB. As offshore RMB (CNH) will be used for the valuation of RMB denominated Class(es), CNH rate may be at a premium or discount to the exchange rate for onshore RMB (CNY) and there may be significant bid and offer spreads and thus the value of the RMB denominated Class(es) will be subject to fluctuation. Any devaluation of RMB could adversely affect the value of investors’ investments in the RMB denominated Class(es) of certain sub-funds.

Manulife Advanced Fund SPC

Manulife Advanced Fund SPC is an umbrella fund comprising a number of sub-funds investing primarily in equity and bond securities, each of which has a different investment objective and risk level.
The sub-funds do not guarantee distribution of dividends, the frequency of distribution, and the amount/rate of dividends. A sub-fund may at its discretion pay dividend out of capital or gross income while charging / paying all or part of its fees and expenses out of its capital. This amounts to a return or withdrawal of part of an investor’s original investment or from any capital gains attributable to that original investment, and may result in an immediate reduction of the net asset value per share of the respective share classes after the distribution date.
Certain sub-funds with significant exposure to Renminbi (“RMB”) bonds/equity/assets or emerging markets, may involve debt instrument, credit/counterparty, concentration, liquidity, volatility, currency, tax, economic, foreign exchange/multi-currency conversion, down-grading, regulatory and political risks and these risks could be substantially higher than the risks normally associated with the world's more established markets.
A bond sub-fund may hold a significant portion of assets in deposits if there are not sufficient RMB instruments for it to invest in. This may adversely affect its return and performance.
Certain sub-funds using invest directly in debt instruments/shares via QFII regime, the Bond Connect and/or the Foreign Access Regime are subject to various requirements and restrictions under the laws of Mainland China related to investment in QFII and/or China Interbank Bond Market and custodial risks.
RMB is not freely convertible and is subject to exchange controls and restrictions.
Certain sub-funds may have significant concentrated exposures to particular industry sectors and geography's, which subjects investors to concentration and equity market risk.
Certain sub-funds may invest in equities of small- and mid-capitalization companies, which can expose investors to liquidity and volatility risks, and is subject to greater risk than is customarily associated with investments in larger capitalization companies.
Investment involves risk. The sub-funds may expose to a high risk of capital loss. Investors should not invest solely based on this material and should read the offering document for details including the risk factors, charges and features of the sub-funds.

Manulife Hong Kong Series

Manulife Hong Kong Series (“the Series”) is an open-ended unit trust comprising a number of funds primarily investing in equities, debt securities, exchange-traded funds and/or collective investment schemes, each of which has a different investment objective and risk level.
The funds do not guarantee distribution of dividends, the frequency of distribution, and the amount/rate of dividends. Dividends may be paid out of capital and/or out of gross income of certain funds in respect of Inc classes, while charging/paying all or part of certain funds’ fees and expenses to/out of capital of certain funds. This represents a return or a withdrawal of part of an investor's original investment amount or capital gain attributable to that amount. Distributions will result in an immediate decrease in the net asset value of the relevant units. Class AA (RMB) Inc Hedged Unit of certain funds is subject to higher distribution risks than other non-hedged unit classes.
Certain funds may involve equity market, emerging markets, Dim Sum bond market, concentration, volatility, liquidity, credit, credit ratings, below investment grade and unrated securities, credit rating downgrading, interest rates, valuation, sovereign debt, unlisted debt securities, political and regulatory, currency, foreign exchange, derivative and structured product, hedging, and distribution risks. Certain investors may also be subject to the risk relating to RMB hedged share class..
Certain funds are subject to the risks of investing in other funds and the risks relating to asset allocation strategy and/or downside risk management process.
Certain fund is subject to the risks relating to investment in exchange traded funds, Strategic and Tactical Asset Rebalancing Strategy (“STARS”), small- and mid-capped companies, convertible bonds and the risks associated with securitised debt instruments and investments in loss-absorption features. Certain fund is a feeder fund that invests all or substantially all of its assets in another collective investment scheme (the “master fund”) and is therefore subject to the risks of investing in the master fund.
Certain fund will not have direct investments other than cash, cash equivalents and financial derivative instruments (such as futures, options and forwards).
Investment involves risk. The funds may expose its investors to capital loss. Investors should not make investment decisions based on this material alone but should read the offering document for details, including the risk factors, charges and features of the Fund and its unit classes.