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Asian Bond Markets Boosted by Positive Fundamentals

Bond markets in Asia enjoyed a positive month as investors looked through US banking turmoil to focus instead on the region’s positive economic backdrop.

SSGA Fixed Income Portfolio Strategists

Asian bond markets enjoyed positive returns in March 2023, with the Markit iBoxx ABF Pan-Asia Index returning +3.36% on an unhedged basis in United States dollar (USD) terms and +1.83% on a USD hedged basis. Against an improving economic backdrop underpinned by resilient domestic demand and reopening momentum in China, the region’s bonds were largely unaffected by the turmoil in the US regional and European banking sectors. And even with the demand spillover from China's recovery, inflationary pressures are moderating, driven, in part, by falling global commodity prices.

Country Local Currency Bond Return FX Return Total Return (in USD)
Thailand 1.94% 3.93% 5.94%
Singapore 3.22% 1.68% 4.95%
Korea 2.85% 1.64% 4.54%
Hong Kong 2.90% -0.02% 2.88%
Philippines 0.67% 1.93% 2.62%
Indonesia 0.61% 1.75% 2.37%
Malaysia 0.49% 1.81% 2.32%
China 0.63% 1.17% 1.81%

Softer Inflation and Current-Account Optimism

Thailand (5.94%) saw its local-currency bonds and the baht rally amid slowing momentum in most inflationary components – especially food and energy – which were helped by the recent decline in oil prices. Headline inflation in March 2023 registered at 2.8% year on year (3.3% had been forecast), and core inflation weakened too. The foreign exchange (FX) element strengthened on expectations that the economy’s current-account deficit is turning a corner as oil prices fall, freight costs normalize, and tourism returns. Market participants have priced-in an interest-rate hike at the Bank of Thailand’s May 2023 policy meeting. The market also believes the central bank will opt not to raise rates at its August 2023 meeting if the economic recovery falls short or inflation continues to soften.

Price Rises Ease in Singapore

Singapore (4.95%) experienced a recovery in both its local-currency bonds and FX when inflation was lower than the Monetary Authority of Singapore’s (MAS) expectations. Core inflation averaged 5.1% in the fourth quarter of 2022 and 5.5% in January and February 2023. These figures were around 20 basis points (bps) lower than the MAS quarterly forecasts released in October 2022. However, inflationary risks remain, especially from Singapore’s robust labor market. Given recent events in the financial sector, MAS may opt to delay an expected 50 bp increase in the slope of the Singapore-dollar nominal effective exchange rate (S$NEER) policy band (from 1.5% to 2%) and eventually return to a tightening bias at its July meeting.

Lower Interest-Rate Expectations in the US Provide a Boost to Korea

Korea (4.54%) enjoyed positive performance, as concerns about financial instability saw investors lower their expectations for US Federal Reserve (the Fed) interest-rate rises. Also, the USD retreated from its highs. This backdrop helps Korea by reducing the risk of higher consumer inflation (a stronger won makes it less expensive to import goods). Despite lower-than-expected consumer inflation of 4.2% in March 2023, core inflation remains persistently high, led by higher costs in the services sector. However, the Bank of Korea is expected to retain its wait-and-watch stance through at least the next two quarters.

US Financial Concerns Boost the Appeal of Hong Kong Bonds

Hong Kong (2.88%) saw healthy bond returns as investors grew cautious when US regulators shut down two regional lenders after they experienced bank runs. Further support came from lower expectations for Fed rate hikes, given the Hong Kong Monetary Authority follows the US central bank’s interest-rate decisions. Even amid tight financial conditions with elevated interest rates and consumer inflation moderating to 1.7% year on year in February 2023 (from 2.4% in January 2023), the reopening with mainland China and a return of tourists could boost underlying price pressures in the coming months.

Currency Recovery in the Philippines

Philippines (2.62%) performed well, as the FX element rebounded from the previous month’s underperformance. Over the year to end March 2023, average inflation in the Philippines stood at 8.3%. And even though prices of goods accelerated at a slower pace last month, there may be a long way to go before inflation settles within the government’s desired level. The governor of Bangko Sentral ng Pilipinas (BSP) had previously mentioned that he could consider a rate-hike pause at the next policy meeting should headline inflation show clear signs of returning to target. Market participants expect price rises to moderate further in April 2023, which could open the door for a BSP pause at its May 2023 meeting.

Economic Data Mirrors Market Expectations

Indonesia (2.37%) moved higher when Bank Indonesia (BI) kept its interest rate unchanged at 5.75% for the second consecutive meeting – this was in line with market expectations. BI Governor Perry Warjiyo guided for a GDP reading of 5.1% in 2023 (this is in the upper half of the central bank’s 4.5-5.3% forecast range) on improving export demand from China. Meanwhile, BI expects headline inflation to remain below 5% in the first half of 2023 before returning to the 2-4% target range from September 2023. The central bank also sees limited spillover to the domestic financial system from regional bank failures in the US.

Rising Demand and Labor-Market Strength

Malaysia (2.32%) saw modestly positive returns from the FX element, but this was not enough to offset the previous month’s weakness. Inflationary risks persist due to stubborn price pressures primarily due to labor-market strength. Malaysia’s central bank is expected to hike interest rates by 25 bps at its May 2023 meeting. Heightened concerns about inflation support this belief, given the demand for goods and services is starting to outstrip supply, with potential growth for 2023 predicted to be 3.5-4.5%.

Services Sector Recovery Underpins Growth in China

In China (1.81%), the yuan saw a modest strengthening against the USD. The Caixin/S&P Global manufacturing PMI (a measure of manufacturing activity) fell to 50.0 in March 2023. This followed the February 2023 reading of 51.6, which indicated the first expansion in seven months. China's recovery in the first two months of the year was driven by a pickup in services following three years of strict COVID policies. However, a convincing manufacturing rebound has not happened due to weak global demand. China’s government has set a growth target of 5% in 2023 after the economy expanded by just 3% in 2022.

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