Turning East: The appeal of Asian bonds amid uncertainty over US policy credibility
Asia presents a compelling alternative for global investors as the region’s central banks and governments have consistently demonstrated their commitment to prudent fiscal management and well-established monetary frameworks
CHALLENGES to the independence of the US Federal Reserve, whether real or feared, have emerged as a source of uncertainty threatening to disrupt the bedrock upon which macroeconomic assumptions, policy decisions and market behaviours have been based for many decades.
Markets responded swiftly to the news of potentially diminished Fed independence, reflecting growing concerns about fiscal dominance. The US dollar weakened, gold prices rose, short-term interest rates fell, and long-term yields climbed – resulting in a steepening of the yield curve.
This dynamic reveals a critical insight: Lowering policy rates does not necessarily reduce government funding costs if it undermines inflation credibility. In extreme cases, fiscal dominance could culminate in a politicised Fed deploying its balance sheet to suppress long-term yields – a scenario that, while not imminent, is increasingly plausible.
These developments have prompted investors to reassess the notion of US exceptionalism.
Historically, the US has enjoyed a competitive edge in growth, technology and market performance. However, this advantage is now being challenged by slower growth prospects, erratic policy decisions and diminishing corporate moats.
The uncertainty surrounding the implementation of the “America First” agenda has created a volatile investment climate, particularly in fixed-income markets, where policy credibility is paramount.
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International investors have made their feelings clear in the short term. China and Japan are reducing their exposure to US Treasuries. Whether this is a temporary trend or a structural shift depends on definitions and investment horizons.
What is clear is that the current political environment and unpredictable decision-making process will likely persist for the next few years. US election results will determine if this becomes the new normal. In that event, Asian investors would reassess their long-term risk and desire to hold US debt.
Asian bonds: structure and stability
In contrast to the US, Asia presents a compelling alternative for global investors.
Asian central banks and governments have consistently demonstrated a commitment to prudent fiscal management and well-established monetary frameworks. This reliability enhances the attractiveness of Asian assets – especially bonds – as investors seek stability amid global turbulence.
Asian economies have faced manageable and relatively muted fiscal pressures. South Korea, for example, expanded its bond supply to support growth, and demand was high. It has a consolidated debt of less than 2 per cent and a debt-to-GDP ratio of 55 per cent. The prospect of South Korean bonds listing on the FTSE Global Bond Index also spurred additional interest.
Singapore runs a fiscal surplus, while fiscal deficits in Taiwan and Hong Kong are also low at less than 2 per cent.
In recent years, many countries have pursued fiscal consolidation and lower debt-to-GDP ratios, providing fiscal headroom. Notable examples include Indonesia (40 per cent), Thailand (60 per cent), Malaysia (70 per cent) and India (80 per cent), with external debt-to-GDP ratios that are also quite low.
Strong fiscal health also limits bond supply and reduces vulnerability to global shocks via exchange-rate risk.
One of Asia’s enduring strengths lies in its robust intra-regional trade, investment and political linkages, particularly within South-east Asia. These connections foster economic resilience and reduce vulnerability to external shocks.
De-dollarisation and currency allocation
Asian bonds are available in both US dollar and local currencies. US dollar-denominated bonds tend to be less volatile and often carry higher credit ratings, while local currency bonds offer higher yields but come with increased currency risk.
Notably, Asian US dollar bonds have historically exhibited lower volatility than global investment-grade bonds. This stability is underpinned by credible policy frameworks and ongoing economic reforms.
Asian credit has a unique characteristic with exposure to sovereign and quasi-sovereign issuers, which inherently reduces the risk of the overall universe. Many of these issuers are national champions: multinational corporations with strong business models, credible management and diversified revenue streams. These attributes contribute to the structural resilience of Asian credit markets.
Recently, large Asian central banks have diversified into local currency markets for the first time. This utilisation of regional markets could become a structural feature.
For investors who subscribe to the “de-dollarisation” thesis, allocating to Asian currencies becomes a strategic imperative. Asian currencies tend to exhibit lower volatility than their non-Asian emerging market counterparts, thanks to decades of sound economic and political governance.
Moreover, the region’s substantial foreign exchange reserves empower central banks to pursue independent policy agendas and actively manage currency volatility. This autonomy allows Asian economies to navigate global disruptions without being forced into reactive policy shifts.
More importantly, investing in Asian local currency assets does not require a bullish view on currency appreciation. Even with US interest rates higher than those in many Asian markets, investors can benefit from the diversification and resilience of Asian bonds through currency-hedged strategies that deliver attractive risk-adjusted returns.
Asian bonds as a core allocation
Asian bonds are increasingly viewed as a core allocation, on a par with Asian equities. From a modest starting point a decade ago, Asian bonds now comprise approximately 50 per cent of widely used global emerging market indices and more than 10 per cent of global bond indices.
Although traditionally classified as emerging-market debt, the region’s strong fundamentals and consistent performance suggest that Asia deserves consideration as a standalone investment destination.
Asia’s trajectory towards developed market status is reinforced by its economic resilience and policy discipline. As investors seek to diversify away from traditional developed market bonds, Asia offers a compelling first look.
The ongoing deepening of Asia’s capital markets will unlock new funding and investment opportunities. Structural reforms and the growth of institutional savings channels are creating a natural demand for Asian bonds, a trend that is expected to accelerate in the coming years.
Overall, Asian fixed income offers three key characteristics that align with investor priorities:
- Diversification;
- Yield; and
- Lower volatility.
Diversification is meaningful only when it enhances portfolio value. Asian bonds deliver on this front, offering relative value and appealing risk-adjusted returns.
Despite global volatility triggered by US President Donald Trump’s tariff policies and broader geopolitical tensions, Asian bonds have remained resilient. This strength is driven by sound fiscal health, expanding domestic demand and structural market transformation.
While the case for Asian bonds is strong, investors should approach the market with care. Access, licensing, liquidity and taxation vary significantly across jurisdictions, making it essential to engage managers who can navigate regulatory complexities, identify relative value opportunities and avoid potential yield traps.
The writer is head of Apac fixed income, Aberdeen Investments
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