Asia-Pacific Investment Grade Credit: Time to Make It a Core Allocation

• Asia IG credit should benefit from both the end of the US hiking cycle and potential global economic slowdown.

• Economic data in China have shown some signs of stabilization, and we continue to favor a selective approach to China credit. Our allocations to Japan and Australia add diversification benefits.

• Burgeoning investor interest adds structural demand, cementing our view that Asia IG credit warrants a core allocation.

• PineBridge’s strong Asia credit research capabilities are key in finding attractive opportunities in a market with significant return dispersion. We identify potential alpha through both active credit selection and duration management.

After a year in which most fixed income assets made a comeback and eked out gains, what does 2024 hold for investors? Given Asia’s growing economic heft and the stellar returns that Asia USD investment grade (IG) bonds have consistently posted, we believe it is worth considering Asia IG as a standalone asset class.

Our 2024 outlook: Strong growth makes a compelling case for Asia IG

Fixed income assets enjoyed a broad rally in the last two months of 2023, sparked by expectations that the US Federal Reserve will start cutting rates in 2024. These views, now the broad consensus, reflected our earlier forecasts, which had informed our portfolio positioning.

Looking ahead, the market is still divided on how severe the slowdown will be in the US and globally, once tighter financial conditions take hold. In Asia, the economic cycle has diverged from developed markets. Inflation has been broadly under control, and the region is expected to expand at a healthy clip in 2024. In fact, excluding China, our forecasts show Asia growing even faster this year, by 4.7%, compared to 4.5% in 2023.1

Against this backdrop, Asia IG bonds are an attractive opportunity, poised to benefit from both the end of the US hiking cycle and a potential global economic slowdown. While Asia IG spreads are now relatively tight, yields remain attractive, with yield-to-worst at 5.25% as of 31 January 2024.

China, and particularly its property sector, has been a concern in the past year for many investors (ourselves included). Economic data in the country has somewhat stabilized though not yet turned positive, in our view.

We actively manage our country exposures through market cycles in order to manage risk while seeking return opportunities. For example, in 2023 we were significantly underweight China, with only half the exposure of the broader index (JACI Investment Grade). Nevertheless, we still see pockets of opportunity in the market, and we have been – and continue to be – very selective about picking the right credits. Beyond index exposure, we have an active allocation to Japan and Australia, where we find attractive value and diversification benefits vis-a-vis other Asian countries.

Structural demand for Asia IG is growing

We have observed burgeoning investor interest in Asia IG credit, spurred by two factors: the growing appeal of Asia assets more broadly, and the solid risk-adjusted returns that Asia IG bonds have delivered across all time periods.

First, Asia’s growing market size is hard to ignore. The Asian credit market has more than tripled in size since 2010, to US$1 trillion currently. Furthermore, some global investors, such as insurers, have a natural incentive to invest in Asia: Such investments allow them to match their own liabilities in the region. Others, such as high-net-worth individuals in Asia, may invest in the asset class due to a home bias.

Second, Asia IG’s risk-adjusted returns have beaten those of other fixed income assets, regardless of the time frame one chooses. As in the chart below shows, over the past 10 years, Asia IG bonds have delivered 3.13% in total returns, compared to US IG’s 2.98% and Global Aggregate IG Credit’s 1.51% -- despite the former being tested by factors both within and outside the region, including the Covid pandemic, China’s property crisis, and US-China tensions. As a result, we believe investors who do not have any exposure to Asia IG, or are underweight the asset class, risk underperformance in their global fixed income portfolios.

Asia Investment Grade Bonds Have Outperformed Over the Past Decade

10-Year Total Return History

Source: Bloomberg. Rolling 10-year data as of 31 December 2023. Asia USD Bonds by the JPM JACI index, Asia IG USD Bonds by JPM JACI Investment Grade, EM Sovereign (USD) by the JPM EMBI Global Diversified index, EM Sovereign IG (USD) by the JPM EMBI Global Diversified index Investment Grade, US IG and US IG (5-7yr) by BofA ICE index, US Inflation Linked by Bloomberg US Govt Inflation-Linked All Maturities Total Return Index, Europe IG by Bloomberg Pan European Aggregate Credit, Global Aggregate Credit IG (USD) by Bloomberg Global Agg Credit Total Return Index, Asia Local Currency by Bloomberg Asia Local Currency Index Diversification does not insure against market loss. For illustration only. There is no assurance that the investment strategies and processes mentioned herein will be effective under all market conditions. Investors should evaluate their ability to invest for a long-term based on their individual risk profile, especially during periods of downturn in the market. Past performance, or any prediction, projection or forecast, is not indicative of future performance.

In sum, we believe Asia IG credit is now an asset class that warrants a core allocation in its own right.

In this fragmented and diverse asset class, we believe managers with deep on-the-ground experience navigating Asia’s debt markets across cycles, and a demonstrated ability to excel in both up and down markets, may help investors make the most of these allocations. At PineBridge, we have built one of the largest fixed income teams in the industry, with 16 investment professionals in Hong Kong and Singapore. The team, which has decades of experience investing in Asian debt across market cycles, is highly credit-intensive and maintains a strong independent ethos. We seek potential alpha opportunities through two sources: active credit selection and duration management.

We expect to see significant return dispersion in the Asia IG market in 2024, which requires a laser-focused, nimble approach to picking the best risk-adjusted opportunities. And given the likelihood of rate cuts in 2024, we believe the asset class will do well this year.