The indiscriminate beta sell-off in Asia over the past two months has opened up the chance to add to exposure in regional FX, and a re-pricing of rates means there will be plenty of regional opportunity over the next few months, according to Endre Pedersen, managing director for fixed income at Manulife Asset Management.
At the start of this year, he reduced risk in two main areas – corporate high yield and Asian FX. Corporate high yield outperformed in 2012, returning 25%, and valuations were beginning to look relatively unattractive. In Asian FX, he reduced exposure from 55% to around 45%, the lowest level of risk since the inception of Manulife AM’s Asian multi-currency fixed income strategy.
“The aggressive weakening of the Japanese yen had a pretty high impact on some Asian currencies, such as the Taiwanese dollar and the Korean won, but also we felt that more volatility was infused into the market,” he said.
“So we scaled back to 45% and we still held double-digit exposure to the RMB, which is the least volatile Asian currency. In Australian dollars we pretty much fully hedged – around 90%. That was when the currency was at 107 [AUD cents to the USD].”
This all changed when US Federal Reserve chairman Ben Bernanke began talking about the possibility of tapering quantitative easing (QE) at the end of May. This led to a volatility across the Asian markets as investors tried to exit from carry positions.
“Investors were getting out of EM [emerging markets] in general and part of that was getting out of Asia. Given Asian FX weakness at the time we took the opportunity particularly in June and the beginning of July to increase exposure,” said Pedersen.
“We increased risk in the risk-off environment because we felt we were positioned relatively defensively. Also if you think strategically that Asian currency is going to return 1.5% or 2% per annum, this was the best opportunity we were going to have this year to increase.”
As a result, he switched from 90% hedged in AUD to a 90% unhedged position, as the currency sold off by 15% and fell to AUD91 to the US dollar.
“We are still getting a lot of questions from people, saying they don’t like the AUD, but there’s a big difference between the currency at 107 compared to 91. Now it’s a very different territory and we like the underlying rate environment in Australia, so we sit overweight on rates,” he said.
“Hedging costs about 2% or more per annum, so it’s expensive to protect yourself from currency movements. Given that the weakness already happened we are comfortable now to have more exposure. We also increased exposure to Philippine peso, Korean won and other currencies.”
On the corporate side he says he is picking bonds on a name-by-name basis in the secondary market. Fundamentally he believes that nothing has changed in Asia and that the market has sold off due to technical factors, and that the best opportunities remain on the credit side.
Winners and losers
While he picks companies on a name-by-name basis, he is not entirely sector and country agnostic, and as such is underweight both India and Taiwan.
“On the fiscal and fundamental side India can be viewed as more troubling than any other country in Asia. We have some exposure, but it’s a difficult part of Asia. The elections in 2014 mean that it’s more about politics; nobody is trying to drive the economy forward,” he said.
In Taiwan, his argument for being underweight is based more simply on valuations. The currency is not particularly attractive relative to other Asian currencies, the rates market is not paying enough and there is very little in the way of a corporate bond market, he said. Indonesia, on the other hand, offers opportunity.
“It’s starting to get to levels where rates are attractive, definitely. You might need to stomach some volatility but they are doing the right thing in reducing fuel subsidies. There will an impact on inflation over 12 months because of it, but after that it will wash out,” he said.
“Net-net it’s better for the fiscal side. The problem there is that foreign holdings are already very large and they have a currency that might continue to weaken, but taking the thing as a whole, rates are attractive.”
The Philippines is also more attractive than it was in May, he said, and he is starting to increase exposure again. “It’s not that attractive on the dollar side, USD bonds, but then you have the synthetics that they sell to foreigners – those are attractive. There’s no taxation and the currency is down,” he said.
Finally, he believes that now is the time to be selling some renminbi. The currency is up 1.8% year-to-date, whereas most other Asian currencies are down.