What makes Asian High Yield so attractive?

What makes Asian High Yield so attractive?

Dispelling concerns about default rates, liquidity and diversification potential, we believe Asian high yield offers investors the income and growth they want.

As the role of credit shifts from being tactical towards playing a greater part within strategic asset allocation, the momentum is with Asian names.

The appeal stems from a mix of fundamental and valuation perspectives. These are based on a range of factors, including solid fundamentals; spread widening across the spectrum; supportive economic data; and markets remaining in a structural bid for yield.

As a result, we believe current spread and yield levels present increasingly attractive entry opportunities for Asian high yield, especially relative to counterparts in the US and Europe.

And various signals suggest this is set to continue:

  • Asia’s relatively early rebound from Covid-19 in comparison with other parts of the world
  • Asia’s historically low default rates
  • The potential to generate resilient income and attractive risk-adjusted returns

Dispelling market myths

The risks to investing in Asian high yield are often misunderstood. Yet concerns about default rates, market liquidity and diversification opportunities should not be hurdles for investors to allocate to the asset class.

  • Default rates

As shown in the chart below, the default risk for the region has been relatively muted, both previously and estimated over the next 12 to 18 months.  It is also important to note that Asian high yield has limited exposure to some of the most impacted sectors (e.g. oil and gas, hospitality, transportation) that have displayed vulnerability during the Covid-19 outbreak.

Dispelling market myths

There is no guarantee that any forecasts made will come to pass. Sources: Data and forecasts by J.P. Morgan, May 2020.  Any opinions and/or forecasts represent an assessment of the market environment at a specific time and is not intended to be a forecast of future events or a guarantee of future results.

Furthermore, investors who are flexible and with the right skillset can navigate default names to generate potential added returns via opportunistic trades. For example, since a credit that defaults will typically display issues around 6 to 18 months earlier, active portfolio management can benefit from the price volatility, rather than solely focus on drawdowns.

  • Liquidity concerns

Analysing the size of the (roughly) US$300bn Asian high yield market – in comparison with the US$1.8trn US market for this asset class1 – creates a misperception in terms of liquidity. However, investors are getting paid for taking up a smaller market size and the risk of any potential market inefficiencies, as evidenced by the region trading at more than 200 basis points wider than the US.

  • Diversification opportunities

When it comes to diversity in Asian high yield, rather than be overly concerned about concentration risk in Chinese names, investors need to keep in mind that China is the world’s second largest bond market. As a result, investors need to accept that China is going to comprise a bigger part of any fixed income or credit portfolio going forward.  Furthermore, diversification can be viewed in a country, sector, and individual security level.  We believe the investment universe for Asian high yield is broad enough that whether we are selecting from China, India, Indonesia, or some of the frontier market sovereigns, we are able to build a diversified portfolio to minimize the idiosyncratic risk.

There is also a growing local bid for Asian high yield debt, in turn leading to lower volatility during global downturns or credit events. This demand is expected to absorb the growth in issuance forecast for the rest of 2020, at least.

Sticking with sound strategies

In order to capitalize on the opportunities in Asian high yield, we believe in taking a multi-pronged approach. This involves:

  • High income potential – based on a core allocation to credits with high current income while investing opportunistically to capture capital upside
  • High conviction – driven by a desire to maximise returns while managing the downside
  • A proven track record – leveraging the firm’s US$20bn-plus in assets under management2 in the broader Asian fixed income asset class, its capabilities span traditional liquid and private credit strategies

This combination creates an effective way to derive short and longer-term benefits – for example, in the near term via a focus on carry and credit dispersion, along with strong risk-adjusted returns from capturing special situations and opportunistic growth opportunities; and, longer term, given the slower growth paradigm, demand for Asian high yield will act as a tailwind that benefits pure high yield corporate strategies.