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Bonds

May 2024

Higher for longer

While we maintain a preference on the longer end of the curve to position for an eventual rate cut, we recommend adding along the front end of the yield curve in a higher-for-longer rates environment. We think a barbell strategy will better prepare portfolios for a wider range of economic outcomes.

Vasu Menon
Managing Director,
Investment Strategy,
Wealth Management Singapore,
OCBC Bank

In fixed income, we hold Overweight positions in Emerging Markets (EM) High Yield (HY) bonds, Developed Markets (DM) Investment Grade (IG) bonds, US Treasuries (UST), an Underweight position in EM IG bonds, and a Neutral position in DM HY bonds.

We think investors should consider positioning fixed income portfolios for an elevated inflation and a soft-landing environment. We recommend investors diversify their duration strategy by adding along the front end of the yield curve in a “higher for longer” rates environment.

While we maintain a preference for the longer end of the curve to position for rate cuts, we think a barbell strategy will better prepare for a wider range of economic outcomes while also taking advantage of a flat yield curve. We think investors can capture incremental yield at the front end by going down the rating spectrum (including HY), while using high quality duration names at the long end.

The front end also provides the highest buffer against rates volatility and would need to see spreads widening materially to result in total return losses.

Developed Markets

Spreads exhibited resilience in April, brushing off geopolitical developments and rates volatility. With US Treasury yields moving higher, the yield for DM IG rose 38bps over the month to 5.77%. The attractive yield levels will likely keep demand robust, limiting material spread widening.

A delayed start to the easing cycle suggests that corporate borrowers will be incentivised to manage capital conservatively, like last year. While the consumer segment has remained resilient in the current high interest rate environment, eventually the impact from high rates will affect low-end consumer and over-leveraged capital structures, extending to the broader economy in due course. We advocate for a defensive positioning, preferring DM IG and steering away from the bottom of the barrel quality.

Emerging markets

Spreads in EM have tightened consistently on stable fundamentals, soft landing optimism and easing financing condition. We maintain an Overweight position on EM HY given attractive valuations – as it is well above the 10Y average over DM HY. We have a Neutral positioning on EM IG as we expect it to underperform on a relative basis given the lack of spread over DM IG.

Asia

We maintain an Underweight position in Asia IG, primarily driven by the limited spread pick-up over US IG. Having said that, the relatively shorter average duration for Asia IG should help the segment better navigate rates volatility. Credit fundamentals for most issuers remain stable and market technicals stay supportive.

In contrast, we are keeping our Overweight position for Asia HY and continue to like better quality names within the segment. Year-to-date, China HY has outperformed, driven by better sentiment and optimism for more policy support.

We continue to expect more policy easing and support for the property sector. Specifically, we will be watching out for effective implementation of measures on inventory destocking, potential setup of a nation-wide platform to acquire stalled projects to convert to social housing, and potential economic reforms at the upcoming Third Plenum in July.

We continue to like the Indian HY renewable energy sector which stands to benefit from an increasing share of renewables in the country’s energy mix over time.

As for Indonesia, currency weakness has triggered Bank Indonesia to hike policy rates by 25bps at its latest policy meeting. With US Dollar-Indonesia Rupiah (IDR) cross rate remaining weak at levels above 16,000, we will be monitoring for any potential impact on corporates more vulnerable to IDR depreciation. We remain constructive on Indonesia quasi-sovereigns but note that the relatively longer duration of this segment would make them more vulnerable to rates volatility.

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