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Asian Bond Watch

Global Investor Study (Part 2): ETFs Gain Popularity as Vehicle for Asian Fixed Income Investments
8 Jul 2019

In our previous article, we noted a new Asian fixed income survey from Greenwich Associates1 highlighted that 95% of existing investors planned to either increase or retain their allocations to Asian fixed income in the next 12 months, and about one-quarter of respondents who had not invested in the asset class planned to initiate an allocation during that period.

In addition, the drivers for this investment trend included the higher yields and favourable macro outlook offered by Asian fixed income. In this piece, we will focus on another key driver – Asian markets are becoming more liquid and integrated into the broader universe of global fixed income – as well as how investors gain exposures to the asset class.

China ranks as the most attractive source of investment

During 2019 and 2020, 364 onshore Chinese bonds will be added to the Bloomberg Barclays Global Aggregate Bond Index. By the end of 2020, onshore renminbi-denominated Chinese bonds will make up an estimate of 6% of the index. The integration of China’s USD13 trillion bond market into the global fixed income market is a milestone of Asian fixed income markets. 41% of the study participants cited index inclusion as one of the key reasons to increase existing exposures.

While this may only be one index so far, Chinese government bonds are also on a "watchlist" of bonds to join both the FTSE Russell's World Government Bond Index and the J.P. Morgan Emerging Markets Government Bond Index Global Diversified. If successful, this suggests the opening up of the world’s second-largest bond market to an even more extensive investor base over the next few years. It is worth noting the study revealed that demand for Chinese assets is the main driving force for global demand for Asian bonds, with two-thirds of study respondents selecting China as the most attractive source of investment from a list of major government bond markets in Asia ex-Japan.

ETFs for Asian fixed income exposures

Although most study participants obtain their Asian fixed income exposures through active strategies, with more Asian fixed income being included in global indices, passive investments are on the rise.

58% of study respondents currently get Asian fixed income exposures through direct, active investments. ETFs currently rank fourth among vehicles used to gain exposure to Asian fixed income, following active segregated mandates and mutual funds. Overall, about one-quarter of global study participants use ETFs for the asset class.

In fact, ETFs are the most popular passive vehicle among study participants, and are gaining traction in Asian fixed income portfolios. 22% of respondents indicate they are considering an investment in Asian fixed income ETFs - topping all other vehicles. ETFs may soon approach active mutual funds in terms of popularity as one of the most used vehicles for Asian fixed income investments.

Liquidity, diversification and cost efficiency are potential benefits

Liquidity is named the top benefit of fixed income ETFs. Growing numbers of institutional investors and private banks see the addition of ETFs, with their ease of trading on exchanges intraday and through the creation/redemption process in the primary market, as a means of addressing liquidity concerns and enhancing the liquidity of their overall bond portfolios.

Investors in the study also value ETFs for their ability to deliver diversification in a single trade, and the fact that ETFs can represent a lower-cost alternative to other vehicles due to their relatively low expense ratios and transaction costs.

After decades of development and years of rapid growth, Asian bond markets have now matured in terms of both breadth and depth, and have the liquidity and infrastructure needed to meet the requirements of an expanded universe of investors. This progress is reaching a tipping point with the inclusion of domestic China bonds into one of the industry's important index benchmarks. As other index providers follow suit, this integration will open the door to a wave of new investors and investment assets.

1 State Street Global Advisors commissioned Greenwich Associates to conduct a global study of 151 institutional investors and 36 intermediary distributors from Asia Pacific, Europe and the United States between October 2018 and March 2019.

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