HSBC Private Boosts Dollar Holdings to Offset Emerging-Market Selloff Risk

HSBC Private Bank is bolstering holdings of U.S. bonds and stocks to mitigate the risks of another sudden emerging-market selloff.

The private banking unit of Europe’s largest lender is deploying 60 percent of its funds in dollar-denominated assets, Arjuna Mahendran, Singapore-based head of investment strategy for Asia, said in an interview yesterday. That includes assets in the Hong Kong dollar, which is pegged to the greenback. The remaining 40 percent is in developing nations, he said. U.S. government notes due in 10 years or more returned 28 percent in dollar terms in the past year, the third-best performance among 144 sovereign bond indexes compiled by Bloomberg and the European Federation of Financial Analyst Societies.

“The strategy is to build up some insurance against nasty events like what happened in September when there was a sudden, massive risk-off,” said Mahendran, whose bank had total client assets under management of $556 billion as of June 30. “I’m more optimistic about the U.S. in the medium term than I am about emerging markets. They’ve come to the stage now where they have run out of capacity to grow very fast.”

Inflows have returned to developing markets in 2012 after the Federal Reserve predicted on Jan. 25 that U.S. borrowing costs will stay near zero through 2014 and the European Central Bank pledged in December to offer commercial banks unlimited cash for three years. The MSCI Emerging Markets Index jumped 16 percent this year after losing 20 percent in 2011.

Spreads Narrowing

More than $9 trillion was wiped from the value of global stocks in August and September as Europe’s debt crisis and a U.S. slowdown damped appetite for emerging-market assets. Developing Asian currencies plummeted, with India’s rupee losing 16 percent in the second half and South Korea’s won weakening 8.1 percent.

Demand for higher-yielding bonds in developing nations has driven down the premiums investors demand to hold the debt this year. The difference in yield over U.S. Treasuries shrank to 3.25 percentage points on Feb. 23 from last year’s high of 4.43 percentage points on Oct. 4, according to the EMBI Plus Index (MXEF) compiled by JPMorgan Chase & Co.

While HSBC Private is allocating more funds for investing in dollar-denominated assets, the bank still likes emerging- market bonds with relatively high credit ratings and stocks of Chinese banks and Hong Kong’s property developers, according to Mahendran. The bank also also favors shares of Taiwanese and South Korean technology companies, he said.

‘Barbell’ Strategy

“This is what you call a barbell because they are so extreme in terms of positioning in the risk spectrum,” Mahendran said. “U.S. Treasuries is the only way you can diversify. You have everything that’s risky out here which is making money now and then you build up a position in the safe assets on the other side.”

The global economic recovery could stall as a flood of money going into China and other developing nations may reignite inflation and create asset bubbles, Mahendran said.

“It’s so difficult to distinguish where risk lies anymore because liquidity is swamping everything,” he said. “We’re not really in charted waters.”

The view of HSBC Private Bank contrasts with that of Templeton Global Bond Fund’s San Mateo, California-based portfolio manager, Michael Hasenstab, who said this month that he is keeping the dollar at a lower weighting than benchmark indexes and is maintaining bullish wagers on assets in Asia and parts of Central Europe and Latin America.

Pimco Favoring Treasuries

Brian Baker, the Hong Kong-based chief executive officer at Pimco Asia Pte, a unit of the manager of the world’s biggest bond fund, said this week that Treasuries are a good way to protect investors’ portfolios from extreme volatility.

The People’s Bank of China cut reserve requirements for major banks twice since November to support growth. The median estimate of economists in a Bloomberg survey predicts growth in the world’s second-largest economy will slow to 8.5 percent in 2012 from 9.2 percent last year. The Reserve Bank of India cut the amount lenders must hold as reserves by 50 basis points to 5.5 percent last month, loosening monetary policy for the first time since 2009.

There’s a limit to how much “China and India in particular” can stimulate their economies, Mahendran said. “Even though China is cutting reserve ratios, at the first sign of inflation or asset bubbles, it will probably pull back.”

Rising oil prices are also a risk for emerging markets, Mahendran said. Crude prices reached $108.74 a barrel in New York yesterday, the highest level in more than nine months.

“In rallies like now, you basically buy everything that’s risky,” Mahendran said. “The frightening thing is they are all correlated. If you want diversification there’s only one asset. A nice collection of Triple-A, rock-solid Treasuries and U.S. multinational long bonds.”

To contact the reporter on this story: Lilian Karunungan in Singapore at lkarunungan@bloomberg.net

To contact the editor responsible for this story: Sandy Hendry at shendry@bloomberg.net

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