Investors’ appetite for high-yield credits raged unabated in 2017. Amid Asia’s yield-chasing atmosphere, Income Partners won this year’s House Award in High-Yield Fixed Income, among other awards, and took away the grand titles of Provider of the Year – Onshore and Best Fixed Income House. However, these wins have not made Raymond Gui, CFA, Co-CIO and Senior Portfolio Manager, complacent – perhaps a trait developed from years of plowing the inherently volatile high-yield space, where profits can easily evaporate if not closely guarded. He shed light on where opportunities may emerge next in Asia’s high-yield landscape.
BENCHMARK (BM): The Asian high-yield market has grown rapidly in the past two decades. As a pioneer in this market, can you tell us what the most drastic changes were in term of issuers, product offerings, and investor preference?
Raymond Gui (RG): Certainly. There have been two major changes in the USD denominated Asian high-yield market over the past five years. First, there was a surge in the number of active Chinese high-yield issuers in the offshore USD bond market. As these onshore companies expand overseas, more of them are testing the waters of the offshore bond market as an alternative funding channel. As of today, Chinese high-yield issues account for about half of the USD-denominated Asian high-yield market. This trend is broadening the China high-yield universe, thus creating more investment opportunities for bottom-up credit investors like us.
Second, thanks to the rapid growth of Asia’s high-net-worth population over the past decade, Asian investors now dominate the Asian high-yield market, accounting for around 80% of its investor base. Since Asian investors generally have a deeper knowledge of local companies and trade less frequently, the Asian high-yield market has seen a marked decrease in volatility since 2014.
BM: Following the Fed’s December rate hike, Malaysia’s central bank also raised its rate toward the end of January. Do you expect other Asian central banks to follow suit? And how will the tightening bias affect your strategy?
RG: This is a question occupying the minds of high-yield investors. We haven’t ruled out the possibility of more Asian central banks following in the Fed’s footsteps and raising rates this year. If investors’ worries about rising interest rates are not contained, they could develop into a major risk in the Asian high-yield market.
The other risk factor we anticipate is the progressively tighter valuation of Asian high yield bonds, given that the valuations of lower-rated bonds already appear stretched outside of As ia. That’s why we have shortened the duration of our high-yield strategies to be more defensively positioned this year.
BM: Given your significant exposure to China’s fixed income, what are the implications of China’s bond market liberalization on your investment thesis?
RG: We’re glad to witness the opening of China’s onshore bond market. Since last year, participation rules in the onshore market have become increasingly relaxed, giving rise to attractive investment opportunities for our Asian credit strategies.
China’s onshore RMB-denominated bond market is the third-largest in the world, next to the bond markets in the US and Japan. Its sheer size dwarfs that of the offshore, USD-denominated Asian credit market. The capitalization of the onshore market has surpassed US$11 trillion, of which over US$2 trillion is accounted for by implied high-yield bonds. The substantial scale means that across all our Asian credit strategies, China’s onshore bonds have become an increasingly important part of our portfolio allocation.
BM: Your consistent outperformance, even during times of market turmoil, is widely recognized by peers. Much of this success is attributable to your disciplined portfolio monitoring and risk management. How can your disciplined approach continue to create value in the prevailing bullish environment?
RG: Our disciplined approach to portfolio management is based on 25 years of experience in the Asian credit market. It is a combination of flexible, top-down macro allocation and prudent, bottom-up credit selection. Over the medium term, we have successfully achieved consistent outperformance while keeping volatility below average because we have tended to attain a return on par with the market when investors’ sentiment is bullish and because we have generally had less drawdown than other market players in bearish environments.
Our investment philosophy also emphasizes downside protection. When bond valuations spike to excessive territory and investors become overly optimistic, we tend to shift our focus to more defensive sectors. This strategy gives us more flexibility to buy bonds trading at lower valuations, right before market corrections set in.BM