Grant believes Asian economies should be able to withstand any adverse impact as long as the Federal Reserve hikes interest rates gradually.
With the US economy showing indications of revival, the Federal Reserve recently removed the final $15bn per month of its bond purchase stimulus programme, ending the quantitative easing programme.
First State expects the first rate hike from the Fed in June 2015, but it is highly dependent on data indicators. It expects the rate hikes to progress through the second half of 2015 and 2016, with the neutral Fed Funds rate expected to reach around 3.5% in 2017.
Grant said the US dollar will likely strengthen significantly for the next couple of years, but it will not have a strong impact on regional economies.
“We’ve had significant dollar strength through the middle part of the year and the impact on Asian currencies was not as great as in previous cycles.
“Asian markets have realised this is coming and it is not going to be a shock. Balance sheets in Asia are so much stronger than in the previous rate rising cycles. Throughout the course of year, the credit indices have registered positive returns month after month.”
Best investment ideas
Grant believes credit is a good place to be rewarded for risk, provided investment decisions are backed up by top quality credit analysts. His overweight positions in credits are in Malaysia, China and Hong Kong.
He was cautious on China in the middle of the year as the real estate market slowed and property prices fell. But he now believes the country is through the worst of it.
The manager is underweight Korea and the Philippines due to their expensive valuations. A-rated bond issuances in China, Hong Kong and Thailand are cheaper than those in Korea and the Philippines, he said.
“We think the taper tantrum was very heavy on India and Indonesia, but we think we are now compensated for the risk [in those markets].”
“India is resolving their current account situation. Some of the central bank policy changes have resulted in a positive outlook for the economy.”
Bond call
“We got that wrong and that hurt us as credit spreads continued to rally.”
These views are broadly reflected in the asset allocation of both the First State Asia Bond Fund and the First State Asia Quality Bond Fund.
In terms of country allocation, the Asian Bond Fund has the highest allocation to issuances from China (27.3% weighting as of 30 September) followed by Hong Kong (18.9%) and Indonesia (13.1%).
The Asia Quality Bond Fund too has 26.5% weighting in China followed by 21.8% in Hong Kong.
Both the Asian Bond and Asian Quality Bond products have small exposure to India, 2.7% and 2% respectively.
Asian High Yield
He finds Asian high yield an interesting asset class over the next three-five years.
Since 2008, the size of the bond market in Asia has grown four times larger, he pointed out, adding that about 20% of the growth is in high yield products.
The Asian high yield market is dominated by issuances from China, which accounts for half of the universe.
“As China liberalises and more issuances come out of China or Indonesia, you will see growth of high yield issuances in the region. If we think of the next big thing in terms of product design or funds for Asian investors, it is going to be high yield.”
In terms of risk, some sectors where he sees default probabilities are in the Chinese property sector and the mining sector across the region, particularly Indonesian mining companies.
