The manager of the world’s biggest bond fund forecasts sales of dollar-denominated notes from Asia will climb to a record $150 billion in 2014 as yield premiums shrink to a six-year low.
Pacific Investment Management Co. predicts the size of the regional market may double to $1 trillion in three years, Raja Mukherji, head of Asian credit research in Hong Kong, and Ronie Ganguly, portfolio manager in Singapore, wrote in a report today. Pimco, which had $1.94 trillion under management in March, sees opportunities in state-owned enterprises in energy and utilities, as well as Basel III-compliant, Tier 2 issues from Japanese and South Korean banks, they said.
“Global investor demand for hard-currency offshore bonds has led corporations to tap longer-tenor debt at attractive rates versus short-term bank funding,” Mukherji said in a July 7 e-mail interview. There’s also a desire among banks to increase fee-based business via the bond market given stricter capital requirements for loans, he said.
Mukherji said the current size of the dollar bond market in Asia, including sovereign and corporate notes, was $492 billion as of the end of June.
Yields on dollar debt are falling this year after Federal Reserve Chair Janet Yellen said last month she was committed to keeping U.S. interest rates low, even as it reduces its bond-purchase program. Borrowers in Asia sold an unprecedented $101.7 billion of the securities in the first half, data compiled by Bloomberg show.
The extra yield investors are asking to hold Asian investment-grade corporate dollar bonds over U.S. Treasuries narrowed 42 basis points this year to 155, the lowest level since November 2007, according to an index compiled by Bank of America Merrill Lynch. Ten-year Treasury rates have dropped 45 basis points, or 0.45 percentage point, to 2.57 percent.
Global funds, especially those from the U.S., remain under-invested in Asia and many are looking to add, Pimco’s report said. The local investor base, particularly insurers, pension and sovereign wealth funds, are also participating more in new issues, according to the report.
Banks worldwide are being forced to implement tighter risk controls after the global financial crisis, causing a flurry of Basel III bond sales. Such securities pay higher yields because the notes may be written off or converted into equity if a borrower’s balance sheet deteriorates to a point of non-viability.
On a sector basis, Pimco likes dollar bonds from Chinese state-owned companies in the water and natural-gas sectors, particularly as they liberalize prices, the report said. It also favors Korean state firms as they reduce their debt through asset sales, scale back capital expenditure and slow the pace of acquisitions, Mukherji said in the e-mail.
The bond manager is also showing a preference for U.S. currency notes from Indian and Indonesian companies involved in energy and utilities, according to Mukherji.
“We would focus on the strong SOEs and private corporations that have high-quality assets, enjoy strong sovereign support and a favorable tariff regime,” Mukherji said, referring to India and Indonesia.