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Geopolitics to shake Asia bond market, says Western Asset

In 2020, the direction of US-China relations will drive volatility in the Asian bond market, according to a fund manager at the Legg Mason affiliate.
Desmond Soon, Western Asset

Despite the expected signing of a phase one trade agreement, Desmond Soon, Western Asset’s head of investment management in Asia ex-Japan, remains wary of improving relations between the two countries and said to expect market volatility in 2020 as the trade negotiations continue.

“The deterioration of US-China relationship could be a major concern because they are two economic, political, and military superpowers,” he said, speaking at a recent Hong Kong media briefing.

Parent firm Legg Mason said it does not have positive expectations for US-China trade relations because neither side seems to be conciliatory and “escalating tensions and uncertainty will continue to weigh on sentiment, leading to further drags on capital expenditures and consumer confidence”, the firm said in its 2020 outlook report.

Those concerns are echoed by Moody’s, which believes trade friction will spread to Asia and particularly to sovereign credit.

“Despite the phase one deal, the prospect of the US and China agreeing on long-term issues like industrial policy, intellectual property and market access remains highly uncertain. As a result, the US-China trade relationship will remain a source of uncertainty and volatility in 2020,” Martin Petch, Moody’s vice president and senior credit officer, said in a recent report.

“These trade frictions will spread via global supply chains, and Asia-Pacific sovereigns embedded in global supply chains such as Korea, Malaysia, Singapore and Thailand, along with Vietnam to a degree, will be impacted as a result.”

Asia bond headwinds

Soon manages the firm’s Asian Opportunities Fund, which focuses on local currency investment grade government bonds (50%) and corporate bonds (28%).

His fund’s top three holdings are local currency sovereign bonds from the Philippines (5.6%), Malaysia (3.8%) and Thailand  (3.78%), according to FE Fundinfo.

The fund has outperformed the sector the trailing three years (chart below), but volatility has been relatively high at 4.15%, almost twice the Hong Kong sector average of 2.21% and Singapore’s 2.45%, FE Fundinfo shows.

In 2020, Soon said he prefers “high quality Asian countries such as China, Malaysia, and particularly Indonesia, which still has 7% of 10-year government bond yield”, he said.

The preference for Malaysia has changed since September when Western Asset was cautious on the market. Foreign investment in Malaysia’s government bond market was high – at around 38.7%, “which could easily affect fundamentals in the event of a sell-off”, the firm said at the time.

Government policy firepower

China bonds, Soon said, remain attractive because of the government’s fiscal and monetary policies to stabilise the economy “even though the economy is slowing for both structural and cyclical reasons”.

Despite being underweight South Korea (due to the unpredictability of North Korea’s actions), Soon was generally upbeat on the Asian bond market, citing the capabilities of Asian governments to stimulate markets.

“Asia in general looks well poised to provide fiscal easing to address near-term cyclical shocks from trade tensions and structural headwinds from the global economy,” Soon said.

However, some Asian governments, such as Thailand, have been reluctant to stimulate economic growth, Robert Horrocks, CIO at Matthews Asia, recently pointed out.

Moreover, Moody’s is downbeat on sovereign creditworthiness in 2020 in Asia-Pacific because of slower economic growth, a turbulent external environment and some governments’ reduced capacity to respond to shocks.


The Legg Mason Western Asset Asian Opportunities Fund versus its sector in Hong Kong and Singapore

Source: FE Fundinfo. Three-year cumulative returns in US dollars. Note: the benchmark index of the fund is not available on FE Fundinfo.

Part of the Mark Allen Group.