• 07/09/2017

Charting Asian Fixed Income

Charting Asian Fixed Income

by bm editor


In the view of Manulife, the Asian fixed income market has been historically downplayed, not well understood, and under-researched – with little participation. It is precisely for these reasons Manulife Asset Management (MAM) launched the Manulife Global Fund – Asia Total Return Fund (Share Class I) for institutional investors about two years ago. A retail share class of the fund was recently approved by the Hong Kong Securities and Futures Commission.
We sat down with Yu-Ming Wang and Endre Pedersen to find out why they are so excited about this asset class.

BM: In the marketing literature,it says the fund targets to capture return from three sources, namely interest rates, credits, and currencies. Can you elaborate on that?

Wang: On the subject of credit,let us consider sovereign risk. In Asia, we have seen upgrades across the region in the past couple of years. On the other hand, European countries and even the U.S. have been downgraded by ratings agencies – the latter just by Standard & Poors for now. At a time when European and U.S. governments are grappling with mountains of national debt and runaway budget deficits, many Asian governments are sitting on burgeoning foreign reserves and having healthy budgets. Given their robust fiscal conditions, Asian governments do not need to borrow. They are issuing bonds to create a yield curve and to nurture the growth of bond markets.

We believe it is far safer to lend to people who don’t need money. As for currencies, based on purchasing power parity, Asian currencies are still undervalued even after strong gains in the past two years. The sizable appreciation of the Chinese renminbi recently, compared to the previous pace, may result in further gains in other regional currencies.

Pedersen:We think inflation is peaking around the fourth quarter. Even though interest rates in the region may not come down rapidly, yields are attractive and high enough to compensate interest rate risk.

BM: How do you see Asia’s growth prospect in light of the U.S. Fed’s latest assessment of its economic growth (Ben Bernanke’s comment after the FOMC meeting on August 9) and the fiscal restraining movement across Europe?

Wang: It will be a very different world indeed. The U.S. had averaged 2 to 3% GDP growth in the past 10 years but its economy and that of the globe will grow slower going forward. Since 2008, Asia has become the largest contributor to world growth. This trend is expected to continue as strong finances in this region will support further growth.

Pedersen: Asia is a high beta play on global economic growth. Due to Bernanke’s pledge to keep interest rate at near zero till mid-2013, it is likely that investor money will stay in this region.

BM: The fund currently overweights corporate bonds (~70% of portfolio) vis-a-vis the benchmark index ( Yet Asian corporate bonds as a group is scarcely covered and researched, by rating agencies and sell side research establishments. How does your team assess these bonds to determine their attractiveness?

Pedersen: We are focusing on corporate bonds because good economic growth will lift corporate growth and profits. Currently, about 20 to 22% of our corporate exposure is denominated in US dollars, and the rest in local currencies. This highlights our belief on continued strengths of Asian currencies. We also hold some floating rate issues and these should benefit when interest rates move up. With regards to coverage, we have one of the biggest fixed income investment teams in the region. Of the 40 people in our team, 15 of them are credit analysts. They are located in 10 regional countries/territories. Between them they closely follow 200 corporate names. This means performing site visits, attending earnings conferences, and so on. Typically, we do not rely on rating agencies.

BM: Is the fund allowed to invest in convertible bonds? How do you see investment opportunity in such securities?

Pedersen: The fund can invest in convertible bonds, but currently we only have exposure to one issue. Convertible bonds can offer highly attractive proposition but their valuations are not particularly attractive for the time being. Back in early-2009, we saw a lot of good values in these instruments due to indiscriminate selling during the financial tsunami. We were closely monitoring the market while the institutional share class of the fund was being set up. It was near the end of September 2009 when the fund was up and ready to invest.You can say we arrived late to the party and missed the window of opportunity.

BM: What sort of risk management mechanism do you have in place to safeguard the fund?

Pedersen: We have established a benchmark index whereby we can compare the fund’s volatility. For day-to-day and real time monitoring, we subscribe the risk management system from Barclays Capital which is in our view one of the most sophisticated systems on the market today. We allow a maximum tracking error of 3.5% compared to the benchmark index over the medium term of between 1 to 3 years, and for total volatility to stay within 4.5% to 5% on an annualized basis. Currently, the fund’s total volatility is about 3.5% p.a. – that is well within our preset limits.

BM: Being a European, do you notice any differences in the profiles of Asian investors compared to European investors?

Pedersen: It occurs to me Asian investors are more willing to take risky bets and are generally equity focus. They are also more interested in single stock names. In comparison, European investors are more cautious when it comes to making investment decisions and the majority of them utilize funds as the preferred investment vehicles.

BM: And how do you compare your style as a fund manager to your peers in this region?

Pedersen: I have not studied their management styles in detail so I cannot make any comparison. The way I would describe how our fund is managed is that it is very much process driven. We spend
a great deal of attention to make sure that our process is repeatable. In addition, we are highly team-focused.

BM: The fund has the potential to declare and pay out interim dividends every calendar month. What is the source of income for these dividend payments?

Pedersen:From time to time, the fund will collect coupon payments on our bond holdings. In addition, we would also calculate accrued interests at every month-end. After setting aside an amount for operating expenses, we may decide whether to declare and pay out interim dividends. I would like to add that this feature is not available to the fund’s institutional share class but we want to offer this option to investors of the retail share class. Interestingly, most investors forego this option by investing in the accumulative class.

BM: What is the biggest risk to your investment assumption? What event would make you stay up at night?

Pedersen: In terms of the portfolio, there is no event that keeps me up at night. Given our approach where we monitor and manage risk both relative to our reference index as well as from an absolute perspective, we ensure that our risk is well diversified and that we have several avenues of generating returns for our clients. Our outlook remains that Asia, in particular China, will continue to grow more so than North America and Europe and as a consequence, our investments are currently fully focused on this region. BM