The role of Hong Kong dollar bonds in the portfolios of Hong Kong-based institutional investors at the moment couldn’t be clearer.
The nature of this fixed income instrument says it all: government, quasi-government and investment grade credit bonds characterised by low risks and stable returns. In times of volatility, they tend to be perceived as a suitable way to invest capital with comparative stability.
“In view of the market uncertainty, investor confidence in risk assets such as equities is less sustainable, with short-term rallies rather than the prolonged periods of strong performance we have been used to seeing over the previous decades,” explained Cecilia Chan, chief investment officer fixed income for HSBC Global Asset Management (AMG) in Asia-Pacific.
At the same time, appetite for bank deposits – another key competitor to Hong Kong dollar bonds – has suffered at the hands of an outlook likely to include interest rate cuts over the coming months, she adds.
“Among cash, bonds and risk assets, we think bonds as a defensive play will continue to be an important asset for investors to hold,” said Chan.
PREDICTABILITY IN VOLATILE TIMES
Coupled with the relatively low-risk nature of Hong Kong dollar bonds, the potential interest income of this investment vehicle is gaining popularity among local investors.
Further, the currency peg to the US dollar ensures the Hong Kong dollar’s outlook is linked, in particular, to the US Treasury market, which has performed strongly since the start of this year.
In addition to the US Federal Reserve’s (Fed’s) new doveish stance on the Federal funds rate as of the first quarter of 2019, further support for Hong Kong dollar bonds has come from the Fed’s mid-June meeting where it said it will consider a half-point cut in the coming months.
“It looks like this scenario will remain for the rest of this year,” said Chan.
She also doesn’t see any reason for uncertainty over the peg itself. In fact, compared with a stable level of HK$7.8 to the US dollar over the past few years, she believes that the more recent trading at both the bottom and top of the peg’s range encourages Hong Kong-based investors to opt for Hong Kong dollar bonds as a way to match their liabilities in the currency without exchange rate risk.
“It is still a supportive landscape for holding Hong Kong dollar assets," noted Chan.
This is the case, for example, with local insurance portfolios showing strong demand in the long end of Hong Kong dollar bond market, she added.
Yet while further easing of monetary policy can buoy fixed income instruments, it also raises questions about the extent to which market expectations is already priced in, and about how much potential upside really exists in the market.
“I think a lot of this is already priced in,” said Chan. “Yields have fallen and the [yield] curve is inverted at certain points; money market rates may even offer higher than government bond yields.”
But net-net, she thinks longer-dated bonds are more supportive in a range-trade scenario. “Potential total returns over the next six months will mainly come from the coupon income (yield carry).”
Anything beyond 2019, however, is difficult to call, given the dependence of Hong Kong dollar bonds on the broader global economic outlook, especially in the US.
For the time being, Chan is unfazed about the potential impact of US-Sino trade tensions on Hong Kong dollar bonds; instead, she sees this as having more of an impact on equities due to policy uncertainty.
An alternative option for Hong Kong fixed income investors are bond index exchange traded funds (ETFs). And taking the Hong Kong Dollar Bond Index ETF managed by HSBC Global Asset Management as an example, the year to date performance is 2.31%1. Investors may also refer to the Calendar Year Performance2 of the ETF over the last 5 years for reference.
The appeal is reinforced by the fact that Hong Kong dollar bond index funds incur relatively little credit risk – there is minimum concern with the Hong Kong government in terms of default risk, repayment capability or liquidity.
This is what Chan said Hong Kong corporates and government entities want, given their desire to prepare for future expenditure and liability needs matching. “They typically see Hong Kong dollar bonds as a relatively low risk investment vehicle within which they can invest against their future liabilities.”
It is also less and less common for these investors to need to pursue aggressive return expectations. “With a lower target for their portfolio, they are increasingly leaning towards more defensive investments,” she explained.
At the same time, with an aging population in Hong Kong, investors want more defensive choices that also enable them to match their currency liabilities.
1. HSBC Global Asset Management, data as at 31 May 2019
2. The calendar year return of the first year is calculated between share class inception date and calendar year end of first year if the share class has less than 5-year history. Calendar year performance for the past 5 years was 2.48% (2014), 2.54% (2015), -0.83% (2016), 1.62% (2017) and 0.88% (2018).
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Past performance is not an indicator of future returns. The figures are calculated in the share class base currency, NAV to NAV basis with dividend reinvested, net of fees. If investment performance is not denominated in HKD or USD, HKD or USD based investors are exposed to exchange rate fluctuations.
Any forecast, projection or target where provided is indicative only and is not guaranteed in any way. HSBC accepts no liability for any failure to meet such forecasts, projections or targets. For illustrative purposes only.
This document is prepared for general information purposes only and does not have any regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive it. Any views and opinions expressed are subject to change without notice. This document does not constitute an offering document and should not be construed as a recommendation, an offer to sell or the solicitation of an offer to purchase or subscribe to any investment. Any forecast, projection or target where provided is indicative only and is not guaranteed in any way. HSBC Global Asset Management (Hong Kong) Limited (“AMHK”) accepts no liability for any failure to meet such forecast, projection or target. AMHK has based this document on information obtained from sources it reasonably believes to be reliable. However, AMHK does not warrant, guarantee or represent, expressly or by implication, the accuracy, validity or completeness of such information. Investment involves risk. Past performance is not indicative of future performance. Please refer to the offering document for further details including the risk factors. This document has not been reviewed by the Securities and Futures Commission. Copyright © HSBC Global Asset Management (Hong Kong) Limited 2019. All rights reserved. This document is issued by HSBC Global Asset Management (Hong Kong) Limited.