2022 was one of the worst years ever for bond markets. Against such a challenging environment, Asian bonds experienced unprecedented outflows; most notably foreign ownership of Asian local bonds fell to multi-year lows. However, a recovery in risk appetites in late 2022 has already attracted the return of some of these outflows.
China’s re-opening boosted sentiment based on the improving economic outlook for Asia. Asian economies are expected to see the full benefits of China’s re-opening via trade, tourism, and commodity channels. This has re-ignited appetite for Asian local bonds. Local buyers have now emerged as the dominant participants in Asian local bonds, underpinning the strength in local bond markets.
Nonetheless China’s reopening can be a double-edged sword in that inflationary pressures could be elevated on higher Chinese demand. But there is still slack in the Chinese economy which is also coming from a low base, plus there are signs of inflation easing in most Asian economies; Asia's consumer price inflation has likely either peaked or is near peaking. Moreover, as the threat of a weaker foreign exchange pass through to inflation abates, Asian central banks will likely enjoy a greater degree of freedom in managing monetary policies to domestic conditions. Still most are unlikely to consider rate cuts till the US Fed pivots to an easing stance.
According to Eastspring Singapore’s Fixed Income team, this suggests there is room to consider owning duration in Asian local bonds for an eventual rate cutting view as monetary policy nears its peak. Historically, bond yields do not peak before the first cut in a rate cutting cycle. As such, having an exposure to local bonds on a selective basis now will bode well for investors once the central banks’ easing cycles begin.
Equally if inflation moderates across the region but policy rates remain sticky, the real yields of Asian local bonds will improve; most are in positive territory albeit below their historical averages. Moreover, compared to other regions, Asian bonds are more attractive considering the underlying fundamental strength of Asian economies.
