While most of the world has been unable to travel in 2021, the same cannot be said for funds flows, which have journeyed far and wide in the search for yield and an adequate return on investment. As we come to the end of the year, a clear theme to 2021 has emerged: The year has been about returns — a return to normalcy following the pandemic, and an adequate return on investment that compensated for initially low benchmark yields, subsequently mitigating inflation and the prospect of rising rates, and thirdly avoiding the potential for capital losses from unforeseen regulatory risk and a tighter financing environment.
As we discussed in early November, rising rate expectations have not been kind to high-grade bullet bonds and in the context of the global economy opening once again (albeit unevenly and under the threat of new Covid-19 variants), we are turning towards high-yield credits on a highly selective basis.
Of course, variety is the spice of life and in searching for yield, it makes sense for bond investors to broaden their horizons and let their investment mandate travel more freely than themselves. This means not only outside their domestic market and within the region but further abroad.
At OCBC Credit Research, we cover key developments in the US onshore market, the Asiadollar market and select local currency markets on a weekly basis to provide investors with a relative snapshot of key credit market movements. We have seen anecdotally how developments in one market can impact another — this provides a useful avenue for investors to possibly reduce risk and improve returns or, at the very least, diversify risk and returns. Here we provide an overview of key developments for a few local currency markets through 2021 that can hopefully provide insight on what can happen in 2022.
Singapore
Good rebound in issuances: Issuance in the SGD market recovered well, with total issuances of $24.8 billion in YTD2021 growing about 40% y-o-y and surpassing 2019’s $24.1 billion issued. The rebound is partly due to better demand from issuers due to improved pricing from the confluence of lower rates and tighter spreads in the earlier part of 2021, as well as refinancing needs and growth/acquisition opportunities.
Government-linked and Temasek-linked names dominate supply: While the variety of supply from global issuers remain limited, SGX-listed issuers or issuers domiciled in Singapore were active in the market. Statutory boards as usual anchor the supply, with the Housing & Development Board alone issuing $5.25 billion in total. The National Environment Agency joined the fray with its maiden bond issuances of $1.65 billion in total.
Temasek-linked or government-linked companies remain the flavour of the year, with entities related to Mapletree Investments ($1.55 billion in issuance including its sponsored REITs), Keppel Corporation ($1.33 billion including its sponsored REITs and business trust), Sembcorp Industries ($1.075 billion), Singapore Telecommunications ($1 billion), Olam International ($625 million) and Singapore Technologies Telemedia ($500 million) amongst the largest issuers.
We also saw new bonds from maiden issuers in sizes such as Changi Airport Group Singapore ($500 million) and Vertex Venture Holdings ($450 million). In terms of structure, perpetuals and longer-dated issuances were preferred, with 10Y and above issuances (including perpetuals) representing around 60% of total new issuances.
See also: US bond market halts brutal run as buyers pounce on 4.5% yields
Higher grade issuances underperformed: While supply has increased, a general rotation from bonds amidst rates volatility may cap further issuances in size. The trend of tightening yields has gradually reversed as the order book sizes generally drifted down to levels significantly below pre-pandemic levels, capping upside in the secondary market. Higher grade bonds tended to be shunned more, including certain perpetuals, though in general, holders of perpetuals still see positive total returns as higher carry outweighed capital losses.
Opportunities may open up: Although higher inflation and higher rates hurt bonds, some pullback in prices is healthy given that many higher-grade issues had previously been chased to sub-2% yields. At current levels where yields have climbed somewhat higher, opportunities begin to open up for income-seeking investors. Higher rates may also ironically support prices of perpetuals as they are usually structured with resets, which allow perpetuals to reset their distributions at the prevailing rates (which are now higher). For ESG-seeking investors, we believe 2022 may hold better news as we expect more issuers to hop on the bandwagon in a bid to meet their corporate sustainability goals.
Malaysia
Diverse offerings: Malaysia’s bond market issuance in 3Q2021 was evenly distributed among corporates and the government. According to Asian Bonds Online, total local currency issuances saw an increase of 1.5% q-o-q with a size of RM1.7 trillion ($561.2 billion) as at Sept 30. Corporate issuances accounted for 45.4% of the total while the rest was issued by the government. By format, the issuance of Sukuks, a type of fixed income security that complies with Islamic finance principles, also grew q-o-q by 3 percentage points. Total sukuks outstanding reached RM1.1 trillion with corporate sukuks having a larger share in Q3 2021.
Per Bloomberg data, Malaysian Government Securities (MGS) and Government Investment Issue (“GII”) comprises nearly 80% in government issuance year-to-date with RM908 billion amount outstanding.
GII complies with Islamic finance principles and are instruments used to raise funds from the domestic capital markets. Meanwhile, financial institutions are the top sector for corporate issuance, taking up almost half of the RM747 billion corporate bonds outstanding as of writing. State-owned Danainfra Nasional has the largest outstanding amount totalling RM78.9 billion.
Constructive Outlook: Yield rose by 3bps for the short end of the government bond curve while longer tenors climbed by 36bps between Aug 31 and Oct 15. A similar trend is observed in the corporate space as well. Plagued with pandemic concerns for most of this year, Malaysia was mired with business closures and a high unemployment rate. However, with its population mostly vaccinated, Malaysia is slowly returning to normal. It has reopened state borders and recently launched Vaccination Travel Lanes with Singapore. Business confidence is expected to increase in the coming months. Bank Negara also maintained its policy rate at 1.75% in the most recent November meeting as the monetary policy committee is optimistic that the global and domestic economies are still on track in their path to recovery. This is notwithstanding the possible spread of the new Omicron Covid-19 variant.
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Infrastructure to underpin activity: For 2022, that government and corporate quasi-government issuance may continue to dominate. The 12th Malaysia Plan calls for RM400 billion in development expenditure to stimulate the economy. Bonds would be issued to raise capital for these projects to improve public infrastructure. For example, the Rapid Transit System link network and expansion of the Pan Borneo Highway. Apart from this, green sukuk which was pioneered in Malaysia in 2017 may also be a large part of the sustainable finance ecosystem in Malaysia. The first green sukuk globally was a RM250 million issuance issued to finance the construction of large scale solar photovoltaic power plants in Kudat, Sabah by Tadau Energy
Indonesia
Government is the major player: Indonesia’s local currency bond market is dominated by government-linked issuance from the central government, local governments and Indonesia’s Central Bank which comprised around 92% of total issuance as at Sept 30. This is slightly higher than the 87% contribution as at Sept 30, 2019. Over the same period, the size of the market has grown materially by 47% to US$355.6 billion ($486.17 billion) according to Asia Bonds Online. This is not surprising given the effects of the pandemic on the country and the need for the government to fund its various support measures over 2020 and 2021. The remaining issuance comes from both public and private corporate issuers with financial institutions (including local and foreign banks as well as asset finance companies) contributing around half of all corporate issuance, followed by industrials (building and construction), materials (commodities) and other government (international multilaterals) issuers. Corporate issuance is also somewhat concentrated with the 31 largest corporate bond issuers accounting for 73% of total corporate bonds as at June 30, the five largest being quasi-sovereign entities.
Tough conditions in 2021 but better in 2022: Activity in Indonesia’s local bond market remained subdued in 2021 due to the resurgence of Covid-19. While issuance volumes are broadly stable y-o-y as at Nov 25, they are down by around 22% compared to the same period in 2019. Factors influencing the appetite for capital include the uncertain economic outlook, with government bond yields rising and economic growth projections revised downward, given that improved performance in 2Q2021 from reduced mobility restrictions was offset by the pandemic resurgence in 3Q2021.
The outlook though is more constructive with anticipated improved economic performance in 2022 likely to result in higher activity in Indonesia’s bond market as demand for capital returns. Bond markets are already benefiting from expectations of a recovery — according to the Indonesia Bond Pricing Agency, yields on one-year and threeyear AAA-rated IDR bonds were at their lowest at the start of November since at least 2009. Performance may also benefit from the relatively lower supply over 2020-2021 and the better yields from Indonesia as a bellwether emerging market (although US rates moves will need to be watched closely through 2022).
Stressed conditions will remain amidst opportunities: Finally, the conclusion of high-profile distressed credit situations including clothing manufacturers PT Sri Rejeki Isman and PT Pan Brothers and majority government-owned PT Garuda Indonesia Persero Tbk may also provide some comfort for local bond investors seeking clarity on how distressed debt resolutions will play out in the future. The local arm of Fitch ratings recently highlighted that while local bond defaults will continue to slow in 2022 on the economic recovery and reducing Covid-19 cases, the overall default rate in 2021 is still above pre-pandemic levels indicating still pent up stress in Indonesia’s corporate sector. While green opportunities are expected to increase for Indonesia going forward given the country’s renewable energy potential through solar and geothermal power, fossil fuels will still have its footing in Indonesia given its high reliance on oil, gas and coal and until its green and transition plans come into force.
China
Casting a shadow: The onshore China bond market is a behemoth with total bonds outstanding of RMB110.6 trillion ($23.74 trillion) as at Sept 30 according to Asian Bonds Online. It is now the second-largest bond market globally, behind the US and ahead of Japan, with 64.3% of bonds outstanding are government bonds consisting of local government bonds, treasury bonds and policy bank bonds. The remaining are corporate bonds, concentrated in state-owned enterprises. China State Railway Group Co is the single largest bond issuer, followed by Chinese commercial banks. Banks have been actively tapping the onshore market in 2021 to build up capital. This composition is very different from the better known Asiadollar market.
Still has room to grow: China controls capital flows and does not fully open its bond market to foreign investors. However, there are steps to encourage foreign participation. In July 2017, Bond Connect was launched as a fourth way for institutional investors to access the market. Foreign investors have decidedly taken notice. According to ABO data, the share of treasury bonds and policy bank bonds held by foreign investors had grown to 11.4% and 5.5% respectively in the third quarter of 2021.
In October 2021, China government bonds were included in the benchmark FTSE World Government Bond Index (WGBI) and this is expected to drive significant passive inflows over time. For active investors, Chinese government bonds provide higher yields and as a bonus, its divergent monetary policy from the US provides diversification benefits.
Although Chinese corporate issuers are starting to introduce themselves to foreign investors, foreign investor participation in corporate credits is still marginal. According to a report from the International Monetary Fund, the market structure for corporate credits is multi-segmented due to legacy reasons.
Continuing evolution: When the market began in the 1980s, the focus was on financing infrastructure to meet national development goals. Since the 2000s, the markets have expanded to cater to a broader segment of the economy.
Trading is done over the counter in the interbank market and the exchange market, both with different regulators and different investor pools. However, regulators have been working towards the harmonisation of these markets.
The corporate credit market has a very short default history and is still developing, in our view. Despite being a rated market, credit ratings are highly reliant on implicit guarantees. These points towards a lack of market-oriented credit risk pricing versus international bond markets. Overall, we expect the bulk of the actual flows to be in the government bond space over the next 12 months.
Andrew Wong, Ezien Hoo, Wong Hong Wei and Su-N Toh are credit research analysts with OCBC bank’s global treasury research and strategy team
Photo: Bloomberg
