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Asian local currency debt takes safe-haven appeal amid Brexit fallout
[HONG KONG] The prospect of central bank policy easing in Asia is luring global money managers into the region's local-currency bonds as the Brexit aftermath drives investors to seek debt-assets away from developed economies.
Despite safehaven flight to dollars following Britain's shock June 23 vote to leave the European Union, investors remain bullish towards Asia's longer-dated bonds thanks to relatively higher rates in local currency markets.
"As investors are faced with an ever increasing pool of negative yielding bonds, attention shifts to markets that may still offer some value," said Brad Gibson, a portfolio manager for fixed income at Allianz Bernstein.
Data from central banks and governments showed foreigners resumed buying bonds in Indonesia and Malaysia in June after they sold in May while investments in Thailand also picked up.
However, they remained net sellers in India and turned sellers in South Korea, after three straight months of net buying.
A simple average of ten-year bond yields of China, India, Indonesia and Thailand prints at a chunky 4.85 per cent compared with a measly 0.19 per cent in the US, Germany, Japan and the eurozone, according to Reuters calculations.
While that yield gap has broadly favoured emerging markets, it has widened further in recent months as developed market central banks pursued extremely accommodative policies.
Historically vulnerable to falling interest rates and local currencies during major risk events, investors say Asian economies are now far better positioned to withstand global volatility than before, thanks to strengthened capital buffers.
More recently, implied volatility, or expected price swings of currencies as measured by option positioning, has retreated from January highs across most Asian markets. Some of the biggest drops have taken place in the Indonesian rupiah where implied one-year volatility has fallen about three percentage points to 11 per cent from October.
Over the past five years, a JP Morgan index of local currency bonds has handed investors a return on investment of about 12 per cent, below its dollar-denominated counterpart, which has returned 34 per cent, according to Datastream.
But with Asian interest rates now enjoying more room to fall than developed market rates, there is scope for local currency debt to outperform.
Foreign investors increased their holdings of Indonesian government debt by 22 trillion rupiah (S$2.26 billion) in June, official data showed, their biggest purchases since June 2015.
In China, where the currency fell to a five-and-a-half year low this week, an auction of government bonds across maturities in Hong Kong saw subscription levels at record levels.
Still, money managers are not uniformly gung-ho about buying local currency debt with investors rotating holdings out of shorter maturity debt as the Brexit repercussions mean currency volatility may play a greater role in total returns than declining interest rates do.
Short-term notes with maturities of less than one year saw outflows of 5.2 trillion won (S$6.1 billion) in June, according to data from Korea's Financial Supervisory Services while foreign investors bought a combined 368.4 billion won worth of bonds in the first seven days of July.
"Short-term interest rates are too low and it's hard to find appeal for investments," said Shin Dong-su, a fixed-income analyst at Eugene Investment & Securities in Seoul.
In other markets, like India, authorities are using renewed demand from investors to add longer-dated bonds to their portfolios to issue longer-dated debt.
"One of the few places where you can get high good positive returns on bonds with relative less currency depreciation is India," said the head of a primary dealership in Mumbai.