Blackrock sees 2021 as a transition year in which the potential health and economic cures for Covid-19 raises its confidence of an improved outlook for Asian risk assets.
“The virus accelerated global trends that were already underway, including the challenge to meeting income and yield demands, the redrawing of global supply chains, and the growing shift toward sustainable investing,” Belinda Boa, chief investment officer for emerging market fundamental active equity at Blackrock, told a webinar this week.
The general confidence is based on a resumption of economic activity in the region, solid sovereign macro indicators, as well as healthy company balance sheets and recovering corporate earnings.
Both Asian credit and equity markets offer superior opportunities than elsewhere in the world, according to Blackrock.
In particular, the firm expects a shift in global portfolio allocations to Asian credit, and especially China fixed income, because yields on developed market bonds are insufficient to meet investors’ need for income.
The Asian credit market offers income that is higher than about 92% of the global fixed income markets, achieved with an investment grade average rating and low duration, according to Boa.
ASIAN CREDIT FOR INCOME NEEDS
In an environment where negative-yielding government bonds amount to around $15.5trn and central bank interest rate cuts are sending positive yielding bonds lower, without expectations of directional change for at least two more years, “China is a clear beneficiary”, said Boa.
This is not only due to the China-US nominal bond yield differential, which has moved from 40 basis points (bps) two years ago to about 240bps, but because Blackrock believes global investors are more confident about having exposure to the Chinese market.
“The broadest opening of the onshore markets is coinciding with an extreme surge in global liquidity, and a growing shortfall of assets that can meet investors’ need for income and yield,” Neeraj Seth, Blackrock’s head of Asian credit, told the webinar.
Moreover, the risk of defaults appears to be lower in China than in other areas such as the US — 3-4% compared with high single digits — and the broader emerging markets, thanks to a more advanced stage of recovery and China’s deleveraging efforts before Covid-19, according to Seth.
Seth advises moving up the credit risk spectrum and holding more cash to hedge rather than just government bonds; shifting outside core US and European markets for income and diversification; and using leverage to boost returns.
He prefers China property issues in Asian high yield, while maintaining less exposure to vulnerable sectors, such as energy, as well as raising allocations to Asian private credit.
In addition, “broader diversification may benefit a global portfolio, and we are finding potential opportunities in India, Indonesia and Southeast Asia,” he said.
Seth favours the local currency debt markets in India, Indonesia and, (to some extent) Malaysia, where “nominal and real rates are attractive, and currencies are well-positioned in a stable-to-weaker US dollar environment”.
However, “the caveat is that quality matters across investment grade and high yield,” he said.
Nevertheless, “the path may be uneven in the next six-to-12 months, yet the prospects for Asian credit appear to us as bright as they’ve ever been,” said Seth.
Seth’s optimism for the region is shared by Blackrock’s equity division.
Investors should look to the $2.5trn in actively managed equities in Asia-Pacific and should find opportunities for ESG-related investment growth, given an increased focus on sustainability in the region, according to Boa.
ROTATING INTO UNPOPULAR EQUITIES
“Positive factors include valuations we consider reasonable, a policy and economic backdrop supportive of a corporate earnings rebound, and a possibly more stable and predictable US-led external environment,” Nicholas Chui, a portfolio manager in the firm’s global emerging market equities team, told the webinar.
Also, a weaker US dollar would bring near-term benefits for countries that offer relatively high yields but that are vulnerable to sudden market pullbacks due to their reliance on foreign capital flows, according to Chui.
He highlighted India and Indonesia as examples, and both countries remain overweight in Blackrock emerging market portfolios.
Chui pointed out that fewer than one-third of stocks in the MSCI Asia ex-Japan index have outperformed the benchmark since the markets’ nadir in March, and that return dispersion is the highest in a decade.
Healthcare and tech stocks have been the main winners, so Blackrock has trimmed its holdings in these sectors due to the possibility of profit-taking selloffs.
In their place, the firm has rotated into out-of-favour stocks, such as travel companies and industrial and materials stocks in China, and has added auto stocks in India that it believes may benefit from resurgent demand, as well as banks with depressed valuations that could benefit from steepening yield curves.
However, Chui warned that “any virus flare-up may challenge this regional outlook”, and that “a full-fledged recovery in Asia would need the developed world’s participation”.