In search of value

Asia’s domestic capital markets are again showing resilience to external shocks. Even as international bond sales hit record volumes, new products and growing cross-border interest are keeping activities running at a rapid pace.

As headlines from the eurozone continue to dominate markets movements the world over, the promise of faster growth and higher returns is making Asia’s local currency debt markets irresistible. Add to that expectations of lower interest rates across the region, and there is little to suggest that the trend will change any time soon.

Domestic investors have been pouring cash into corporate bonds as government bond yields come under pressure. This has proven to be a win-win situation for both issuers and investors, keeping the Asian local currency bond market buzzing.

Asia’s local corporate bond markets have remained busy since the beginning of the year, more than holding their own in the face of record US-dollar debt volumes in the region.

High volume has been a feature across Asia, most notably in Indonesia where it doubled in the first half of the year.

While local investors, typically, prefer to stay close to home, a fresh round of policy easing from the European Central Bank, South Korea and China has left more cash sloshing around in search for better returns, thus increasing the appeal of Asian credits even more.

“We have seen investors move into local Asian currencies from the euro and we expect them to continue investing in Asia and local Asian currencies. We see this trend continuing for three to five years; we don’t see this as a short-term trend,” Henrik Raber, global head, DCM at Standard Chartered.

“High savings rates and development of the asset management and pension fund industries have led to demand for bonds. We also expect to see international investors increasingly invest in Asian local currency markets on the back of a possible strengthening of currencies and also potentially the lowering of interest rates.”

With further policy easing looking possible in the face of slowdowns in US and China, demand for Asian credit looks likely to remain strong.

Diversity in Thailand

Thailand, still recovering from the worst flooding in half a century, illustrates the growing depth of Asia’s domestic debt capital markets.

After economic growth of just 0.1% in 2011, the central bank is forecasting a 6% expansion for 2012. The expansion may well come in higher after a strong first quarter, when growth of 11% was recorded over the preceding three-month period.

The strong rebound, resulting from higher government spending, supported a wave of bond issues from the country with most firms also aiming to complete their funding needs in the early part of the year on expectations that the stimulus may give rise to elevated inflation later in the year.

Not just that, there were several Thai-baht denominated bond issues from Korean entities in the local market. The Thai Government routinely allows foreign companies to sell bonds in the domestic market.

Last month, the Thai Securities and Exchange Commission allowed the sale of unrated bonds. While major investors, such as government-related funds and insurance companies, are still barred from buying such instruments, the rule change could potentially pave the way for new issues from neighbouring Laos in Thailand.

Thailand also hosted a rare perpetual bond sale as PTT Exploration and Production raised Bt5bn (US$159m) in June, shortly before sealing its acquisition of Cove Energy. The perpetual bond market has been especially active across South-East Asia this year, with issuers in Singapore, Malaysia and Thailand underlining the growing demand for the product.

Thailand’s Ministry of Finance also tapped its 10-year inflation-linked bonds a few times this year after selling this instrument in July last year, and the government plans to sell Bt60bn more in the second half.

Singapore’s Monetary Authority is said to be also considering the possibility of selling inflation-linked bonds which indicates that this instrument is set to gain popularity in other parts of the region, as well.

“I won’t be surprised if there is one other country looking to do inflation-linked bonds. Inflation is currently very low so, from an issuer’s perspective, putting out bonds in this environment is clearly attractive,” said James Fielder, HSBC’s head of local currency syndicate for Asia Pacific.

Investment-grade Indonesia

Indonesia has emerged in the international spotlight after Fitch and Moody’s both upgraded its sovereign rating. Corporate bond issues in the local market also doubled in the first half of this year, relative to the same period last year.

Although local issuers and investors continue to dominate local currency deals, foreign investors are slowly arriving, drawn to Indonesia’s investment-grade rating. This component remains tiny, when compared with overseas holdings of government bonds, but bankers say this is steadily rising.

While finance companies got off to a busy start in the early part of the year, dominating rupiah issuance, the government grew conscious of the rapid credit growth in the sector and set limits on the size of housing loans and minimum down payments for auto purchases to curb loan growth.

Indonesia’s growing middle class and record low interest rates are driving demand, but the effect is already taking hold, with data showing motorcycle sales in Indonesia dropping for the fourth straight month in June in South-East Asia’s biggest economy.

The central bank still expects lending growth of 25%–26% this year after increases of 24.6% last year and 22.8% in 2010.

The breakneck pace of lending is eating quickly into the capital adequacy ratios of, otherwise, very well-capitalised banks. The average CAR of commercial banks in Indonesia fell from 21.27% in 2006 to 17.18% in 2010. It stood at 16.05% as of end-2011.

After a slew of issuances in the first half, the Indonesian market is taking a breather, as most companies tend to secure funding in the first half of the year.

Primary market activity in the Philippines has been muted so far this year, despite record-low rates, as investors demand a premium over government bonds and large corporations with dollar requirements find cheap dollar debt too hard to resist.

However, corporate issues are expected to pick up as firms raise cash to fund public-private-partnership infrastructure projects. The Export-Import Bank of Korea also plans to sell peso-denominated bonds in the Philippines, potentially becoming the first foreign issuer to price a peso deal since the Asia Development Bank in 2005.

Kexim had, however, priced a global peso deal in 2010, and the Republic of the Philippines is aiming to test international demand for a global peso bond later this year.

Malaysia’s primary markets have been especially busy as low government yields and an equally benign interest-rate environment drove demand for bonds. The market is expected to remain busy as big-ticket infrastructure deals drive volumes higher in both the conventional and Islamic formats.

Credit analysts also expect issues of non-government guaranteed bonds to exceed those of government-guaranteed corporate paper this year.

Trouble in India

India presents a different scenario. Foreign investment in corporate debt remains restricted under government rules, and a constant battle between inflation and economic growth has been wreaking havoc on domestic rates.

Recent initiatives to direct foreign investment into infrastructure bonds in India, partly to support the weakening rupee, is also a positive step that will not only expand the investor base, but support the country’s mammoth infrastructure spending needs.

The Reserve Bank of India raised the investment limit for foreign institutional buyers in government debt from $15bn to $20bn to be invested in bonds over three years.

The central bank now allows sovereign wealth funds, multilateral agencies, foreign central banks and insurance, pension and endowment funds to buy federal bonds. It reduced the lock-in period of investment to three years from five for foreign investment in government bonds for up to $10bn, including the additional $5bn.

The RBI also allowed manufacturing and infrastructure companies to raise money overseas via external commercial borrowings by an additional $10bn to meet capital expenditure and repay rupee loans.

The central bank now allows qualified foreign investors to invest in mutual fund schemes with 25% of assets in the infrastructure sector under the current $3bn sub-limit. Earlier, 100% of the investment had to be in infrastructure assets.

Also, the implementation in 2010 of a base rate of roughly 10.20%–10.75%, below which banks cannot lend, made loans less attractive to borrowers. Firms had to turn to the local bond market to meet funding needs, despite the fact that domestic policy rates were high and the weakening rupee made it harder to access overseas funding.

Against this difficult backdrop, the borrowing needs of India’s state-run frequent borrowers have been rising, as evident in the busy first half of the year. For instance, one of India’s busiest borrowers, Power Finance Corp, has increased its funding target for the 2012 fiscal year by 12.5% to Rs405bn and it aims to borrow most of the money from the local bond market.

Even though international markets remain sensitive to news emanating from the eurozone, local markets in Asia remain relatively less affected.

“I think the feeling is that, as time goes on and unless we have something very negative happening in the eurozone, investors in Asia are getting on with investing in Asia.”