Kasemsak Charoen, Managing Director of Credit Strategy at GaoTeng
Asian credit rallied to end 4Q with a vengeance as China and US have struck a mini trade deal to avert further escalation on tariffs. 2019 overall was a remarkable year for Asian credit, one of the best since the global credit crisis. Indeed it was a fabulous year for risky assets. Returns for both high-grade and high-yield hit low double digits. Stocks in the U.S. rallied to record high. Despite trade war had dominated investors’ sentiments in 2019 and constant concerns on global economic downturn, the positive trajectory in risky assets in our view was once again chiefly thanks to global monetary easing led by ‘Don’t fight the Fed’ mantra has again proved to be right! In fact, the bulk of return – more than 50% – in high-grade for 2019 was made from a gain in US Treasuries.
Looking ahead in 2020, we believe ‘chase for yield’ will remain a dominant theme as global central banks extend their help to keep money loose against a backdrop of global economic slowdown. With negative yielding assets accounting for over 20% of global fixed income securities, high-yield bonds will be a highly sought after asset. While trade war is an incessant threat and a second phase deal looks insurmountable, the US election year makes it less probable that Trump will be foolhardy to self-inflict a sharply weaker US economy. We believe Asian high-yield sector will outperform in 2020, in particular the Chinese property sector, which still looks attractive relative to its historical default rate. Several beaten-down Indonesia high-yield credits could offer value as well. But there’s no one size fits all. We still brace for more defaults in China industrial space in 2020. We also think local SOEs are not bullet proof and investors should not be oblivious to potential default risk. Meanwhile, while Asian high-grade’s spreads are expected to tighten, it is unlikely to repeat last year’s performance given the higher bar set by the Fed for the next move on rates.
While we are positive on the performance of Asian credit in 2020, it does not mean all is well and we should not expect a smooth voyage. US recession risk still tops our concern. Although we don’t have the crystal ball, a spillover from manufacturing slump to US consumption due to a renewed trade spat could tip the US economy into recession. High oil price sustained by a flare up of conflicts in Middle East would also dampen U.S. consumer spending, the remaining bright spot supporting the US economy. The little ammunition left in Fed’s toolbox is particularly worrisome when the next recession arrives. We are also troubled by the fact that market valuations of risky assets have become increasingly at odds with fundamentals fueling asset bubble at some point. In addition, the world’s ballooning non-financial debt warrants close monitoring and could be a systematic risk if left mismanaged. China has already been tackling its gargantuan corporate debt load and is walking a fine line. Lastly, an acute side-effect of low or negative interest rate environment has been the widening income inequality. The schism has stoked widespread populism and protectionism, as well as led to the recent phenomenon of people’s revolts in both developed and emerging economies. The geopolitical risks are also something to watch in 2020.