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Why Asia’s equity and fixed income outlook shows resiliency amid a perfect storm

PineBridge Investments’ Elizabeth Soon, head of Asia ex-Japan equity, Cynthia Chen, equity portfolio manager, and Arthur Lau, head of Asia ex-Japan fixed income make a case for the region offering investors stability that may be lacking elsewhere amid global tumult.
Why Asia’s equity and fixed income outlook shows resiliency amid a perfect storm
Economic outlooks for Asia in 2022 have been pushed off track by Russia’s invasion of Ukraine. This has sharply exacerbated inflationary pressures that are depressing economic sentiment and raising expectations of more aggressive monetary policy tightening. That, in turn, drives rising recession concerns that weigh on global financial markets.
On the flip side, a weaker growth outlook also means fewer rate hikes and less restrictive monetary policy. We would need to see a more sustained market rebound, and a turnaround in inflation, to lead to a pause in the rate-hike cycle and to ease risks of recession.
China is the only major economy cutting rates. But Covid and continuing woes in the property sector are complicating attempts to use traditional stimulus tools such as increasing credit supply or cutting interest rates.
Asia ex-Japan equity: a multi-track return to normal
Asia’s recovery from Covid is key to market stabilisation in the region. This hinges on three interlinked phases. The first is high rates of vaccination to protect populations from severe illness. This feeds into the second phase, in which the level of confidence about living with the virus rises, as demonstrated in Singapore. In the third phase, as the virus becomes endemic, economies will return to normal. That said, we expect this return to normalcy in Asia to be multi-tracked. Countries like Singapore are ahead of the pack, while Hong Kong and mainland China continue to follow dynamic zero-Covid policies.

While China has lifted some restrictions, there are still pressures on energy and commodities due to the Ukraine conflict. We remain cautious, expecting volatility to persist for the rest of the year.

We also anticipate attractive opportunities to arise from the bottoming of the cycle. China’s policy easing is supportive for equities, adding to the reasons why this market cannot be ignored in global allocations, when most of the rest of the world is tightening.

We remain overweight on Hong Kong and China, as we have been since the start of the pandemic, given that we see signs of a bottoming of the cycle. Some of our investments in manufacturing have been affected by the lockdowns in China. But because these companies have diversified their locations across China and Asia, the downside to their business has not been as significant as it has been for their competitors. As such, we continue to focus on the fundamentals of individual companies in making our investment decisions.

China equity valuations are attractive again

We are cautiously optimistic about China equities in the second half of 2022 and beyond. Current valuations offer reasonably attractive opportunities despite challenges in finding the bottom of the market. Hence, investors could look beyond near-term uncertainties and position for a mid- to long-term recovery.

That said, we do not expect China equities to rebound to the valuations seen at the beginning of 2021. The Covid outbreak may have structurally changed China’s growth trajectory. However, we believe investors should not lose sight of the underlying secular trends that could drive future earnings, such as digitalisation, ESG-related imperatives and rising middle-class consumption.

Current valuations present attractive opportunities

Source: MSCI, as of May 31, 2022. For illustrative purposes only. Past performance is not indicative of future results.
Asia fixed income on a firm foundation

Asia credit fundamentals have remained largely steady, anchoring the asset class against volatility.

Unlike most of the developed world, further policy easing is on the cards in China as authorities seek to moderate the economic slowdown and stabilise the property sector. We believe this presents an opportunity to surgically select higher-quality issues in the high yield (HY) segment.

Credit fundamentals have held steady despite pressures from rising US and regional rates, and concerns about inflation’s impact on earnings. Given the short duration profile of Asia bonds in general, we think the interest rate trajectory in the US will have minimal impact on the asset class.

Nevertheless, we remain underweight duration. We believe recent volatility in the Asia HY market will subside over the next several months on the back of steady credit fundamentals for non-Chinese issuers. China's Covid-delayed recovery means more defaults are expected in the property sector before stabilisation measures have a wider impact.

This, together with Sri Lanka’s default in May, indicates the expected decline in the Asia bond default rate will be pushed to the first half of 2023 instead of this year.

Meanwhile, some non-China HY credits are benefitting from strong commodity prices and steady credit fundamentals. We continue to favour commodity names as inflation becomes a tailwind for the sector. We expect this strong commodity cycle to last longer due to geopolitical tensions and the reopening of many major economies post-Covid.

The reopening theme is strengthening, with Thailand and Indonesia among the latest investment grade (IG) sovereigns to announce significant relaxation to border measures. Economic momentum broadly remains healthy, with inflationary expectations uneven across Asia.

Flexibility and selectivity will remain the watchwords for the rest of the year. With strong fundamentals anchoring the market, Asia fixed income should offer investors the stability that may be lacking elsewhere.

For more viewpoints from senior investment leaders at PineBridge Investments, visit the 2022 Midyear Investment Outlook: Inflation Surges Amid a Perfect Storm for Markets.

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