In recent years, it has become common to ponder whether South and Southeast Asia will be able to emerge from out of China’s shadow within the international bond markets. So far, the answer has always been no.
In 2020, the question is all the more pressing given an expected slow down in issuance from China where the National Development Reform Commission (NDRC) has been restricting bond quotas in the high yield market to refinancing.
Looking around the rest of the region one thing becomes clear. There is an increasing divergence between those countries where issuance levels have been trending up (India and Indonesia) and those where investment bankers and international investors continue to live in hope (Malaysia and Thailand).
India and Indonesia are both important for investment banks because their high yield bond deals still pay decent fees. This is typically 1.25%, but is sometimes higher such as the 1.75% Indonesian textile group, Duniatex paid on its $300 million bond deal in March.
Investors also favour the two countries because they typically generate good returns and offer diversification away from China. But it is also becoming increasingly clear that there is a more marked divergence within each country between the best and worst-performing credits.
Investors are aware that they need to be more careful than ever before not to trip up. For in 2019, Indonesia gained Asia membership of a club that no investor ever wants to visit: the NCAA (No Coupon At All).
In September, the aforementioned Duniatex failed to make the first payment on a $300 million 8.625% bond that had only been issued in March. By that point, the deal was already trading down around 15 cents on the dollar having crashed 70 points in the space of one week in July after the group failed to make a syndicated loan payment.
The saga threw up all sorts of questions about what covenants investors should insist on and the level of due diligence that had been completed pre-launch. In this instance, however, no amount of sinking funds, or coupons in escrow accounts would have made any difference to the outcome.
Duniatex has become yet another prime example of buyer beware when it comes to unlisted Asian corporates with low levels of transparency and information disclosure from countries lacking robust default resolution mechanisms.
On the plus side, it used to take decades for the misdeeds of assorted Asian tycoons to surface and longer than a lifetime for creditors to get paid anything back. These days, bonds can crash and burn very quickly, to which investors can also testify in India, where a $350 million transaction by Indiabulls managed to drop almost 40 points between its issue date in May and nadir in late October.
Ernst Grabowski, head of Asia Pacific debt syndicate at Morgan Stanley, sums up the view of his peers when he highlights one positive aspect to the rapid sell-off that distressed credits have been experiencing. “Issues are being rooted out quickly because investors are a lot more focused on corporate governance these days, he commented. “That’s good for the market’s long-term development.”
Over the past few weeks, FinanceAsia has been canvassing sell-side bankers for their views on 2020. In this article, we look at their predictions for South and Southeast Asia.
During 2019, Indian high yield borrowers provided a rare beacon of light in a year when Southeast Asian corporate bond issuance was down on 2018 in large measure because of elections across many countries in the region.
Bankers are more positive about 2020, although in most instances this is counterbalanced by the region’s differing growth prospects and the low base from which issuance starts.
INDIA
The past year has been an incredible one for issuance, with volumes jumping more than threefold to roughly $22 billion in mid-December according to Dealogic figures.
As Haitham Ghattas, head of Asia Pacific capital markets at Deutsche Bank, says, “It’s been a breakout year and that growth will continue. More regional funds are starting to participate because they realise they need to diversify away from China. They’re also well aware that India presents a good alpha opportunity as new names tend to trade up.”
Amit Sheopuri, co-head of Asia Pacific debt capital markets at Citi, agrees. “I continue to be bullish because there’s a financing need and an outlet since the government liberalised the issuance guidelines,” he commented. “However, my optimism could get tempered a bit if the pace of the country’s structural reforms slows down, which investors will be paying close attention to".
Sheopuri touches on investors’ key concern. What impact will India’s debt overhang have on its growth prospects and determination to institute reform? The answer will determine whether spreads can also repeat 2019’s very strong performance almost across the board – with the exception of the odd non-banking financial company (NBFC).
Most of India’s oil-related credits have had a very good year. Oil India’s 5.125% 2029 bond, issued back in February, has traded up more than 10 points in the space of as many months.
Credit research analysts, however, are not confident about 2020. UBS has an underweight on long-end commodity plays and quasi-sovereign credits.
JP Morgan has also underweighted the country, especially “Indian metal and mining names, which we think are trading tight”. It says it has a “more balanced view on investment grade corporates” but says, “it is getting difficult to find value.”
Credit research analysts all underline how tight valuations are vulnerable to macro-economic risks even if the underlying credit has strong standalone fundamentals.
HSBC, for example, has India at a slight underweight to “reflect concerns about local corporate debt hurdles and a weakened financial sector impeding faster economic activity for the foreseeable future.”
Dilip Shahani, HSBC’s head of global research for Asia Pacific, says that “there is a growing risk that local financial markets might have become unhinged and that Indian rupee weakness gathers momentum, especially if the authorities are perceived to be moving away from adopting prudent fiscal and monetary policies to reverse slumping economic growth.”
In its 2020 Asian credit outlook, JP Morgan adds that if investors want exposure to Indian financials, it recommends “positions in short-dated bonds from public-sector banks that offer modest room for spread compression." It has overweight recommendations on Bank of Baroda and Canara Bank.
It concludes that “these systemically important government-owned banks are likely to see an easing in asset quality pressures.”
Its wild card is the NBFC sector where its view is predicated on the market backdrop remaining benign. Issuance will almost certainly pick up if conditions allow with a big pipeline building at the end of the year.
Nomura is more bearish and has underweighted both banks and NBFCs.
In its 2020 credit outlook, the Japanese securities house says that “our economists believe that India’s growth recovery will be delayed and remain sub-par as the economy deals with a ‘triple’ balance sheet problem (as problems in the shadow banking sector add to the ‘twin’ balance sheet problem at banks and corporates) amid weak global demand.”
INDONESIA
In contrast to India, investment bankers and credit analysts are more aligned on Indonesia, which continues to benefit from the Jokowi effect
Derek Armstrong, head of Asia Pacific debt capital markets at Credit Suisse, says that he remains constructive.
"State-owned credits continue to see their spreads become tighter, enabling them to price flat or through their secondary curves,” he commented “But there has been an issuance lag because of the elections, which led many companies to put their capex and growth plans on hold last year.
"Both factors mean we are likely to see a much busier 2020, particularly during the first quarter,” he added.
Deutsche’s Ghattas agrees. "There’s a fair bit of anticipation about more quasi-sovereign issuance next year. It should receive a strong reception, as this paper is always well-bid by EM funds," he said.
Morgan Stanley’s Grabowski notes that “there’s a fairly sizeable re-financing need in 2022. A number of borrowers are likely to try and get ahead of the curve as early as 2020 where debt is callable.”
Clifford Lee, global head of fixed income at DBS, believes that more supply will lead to great diversification and better liquidity.
“In the past, all names tended to get hit whenever there was a sell-off,” he stated. This should happen less and less frequently in future.”
Citi’s Sheopuri concurs. “We’re seeing a lot more differentiation these days as more issuers come to market,” he remarked. “It’s been very positive because it means that they don’t all get painted with the same brush if there is a problem with any one particular credit. We expect to see a busy 2020 across from the state, state-owned and private sector companies.”
When it comes to the credit research analysts, HSBC has moved Indonesia from slightly underweight to neutral. It says this is driven by the new administration’s focus “on lifting the sustainable real GDP growth rate and paring back the dependence on volatile foreign portfolio inflows”.
JP Morgan agrees and has overweighted the sovereign credit as it expects the president to push through more economic reform programmes given that Jokowi now has a 74% parliamentary majority compared to 37% during his first term.
It notes that the investment community is generally bullish on Indonesia too, though adds that these positions are in the local Treasury market rather than the sovereign’s offshore bonds.
UBS likes Indonesia’s quasi-sovereign credits particularly at the long end given a steeper yield curve over sovereign and Chinese peers.
When it comes to the corporate sector, credit analysts point out that quality credits have tightened substantially, leaving investors with the conundrum of whether to venture further down the curve. Duniatex’s default not only unsettled investors but also the ratings agencies, which have issued a spate of downgrade notices among high yield credits in the country.
JP Morgan thinks that this has opened up buying opportunities particularly among names “trading at distressed yields but which are not default candidates for the next 18 – 24 months.”
It cites ABM Investama’s 7.125% August 2022 bond. It is currently trading at 83 cents on the dollar to yield 15.02% compared to the mid 8% mark when Duniatex’s issue blew up.
It also acknowledges, however, that this “would not be an easy choice” for investors given that “most of these credits have some hair that investors would have to contend with.”
MALAYSIA
One country that international investors would like to contend more with is Malaysia, which shows no sign yet of following India and liberalising its strict offshore borrowing restrictions.
During 2019 there was no dollar-denominated issuance from any of the big quasi-sovereigns – Khazanah, Petronas, Tenaga and Telkom. The landmark deal of the year was the sovereign’s ¥200 billion ($1.47 billion) Samurai, which symbolised its re-alignment with Japan under Mahathir Mohamad’s new government.
And the sovereign appears to be heading in the same direction again in 2020 after publicly announcing plans to issue in the Samurai market during the first quarter.
March also sees the maturity of a $1.25 billion bond for Petronas. This might spur it back into the dollar market and potentially follow PTT’s lead in Thailand, which issued a $650 million 50-year bond in November to take advantage of low long-term rates.
Khazanah has said that it wants to reduce its domestic risk profile by quadrupling its overseas investments to 60% to 70% of its portfolio. This suggests that it might also make a strategic re-appearance in the dollar market.
And then there is the fact that while Malaysia has created a thriving domestic green bond market it has not really ventured offshore to set any benchmarks for international investors.
Citi’s Sheopuri concludes that the country’s “big corporates will continue to be selective and strategic in their borrowing. When they come, they tend to come in size,” he said. “We’re positive about 2020 because it’s an improving credit story so investors are keen to look at it again.”
PHILIPPINES
This is another country where there is a slight divergence between investment bankers who remain extremely positive and the credit research community where houses including JP Morgan, HSBC and Nomura all rank the country as underweight.
The analysts highlight that valuations are at historic tights. Nomura, for example, suggests that a wider fiscal deficit could lead to more supply, which will put spreads under pressure.
The bankers agree that there will be more issuance and a number flagged SMC Global Power's $1.3 billion worth of perpetuals as a particular highlight of 2019.
As DBS’ Lee says, “We’re very optimistic. The previous government laid solid foundations for growth and that’s gaining good traction. Companies are investing and getting projects off the ground.”
But they believe that spreads will hold up because of strong liquidity.
Citi’s Sheopuri says, “Domestic liquidity is still pretty strong and that’s underpinning the market. Having said that, you could see some companies try and take advantage of the competitive funding levels being offered offshore.”
Credit Suisse’s Armstrong is just as emphatic. “The domestic bid has been very strong and issuers have got good execution because of it,” he commented. “The Philippines is one of those rare markets where there is a good onshore and offshore bid.
“We're constructive about the outlook for next year,” he continued. “We don't see any fall-off in domestic demand: quite the opposite in fact. Private banking investors there are really starting to drive demand as more and more products for high net worth investors are launched.
THAILAND
This is another country where bankers expect an uptick of issuance after a fairly active 2019 by historical standards.
One highlight was the first Basel III compliant Tier 2 deals from Bangkok Bank ($1.2 billion) and Kasikornbank ($800 million) in November. Siam Commercial Bank also raised $1 billion from senior notes at the very beginning of the year.
The Thai banks have been encouraged offshore by a relative increase in the domestic cost of capital and a decrease in the foreign cost of funds.
As Citi’s Sheopuri explains, “We expect the uptick in dollar issuance to continue being driven by competitive offshore funding levels, which allow issuers to swap back to tighter levels than local rates, plus some M&A-linked activity.”
Both HSBC and JP Morgan have overweight positions in Thailand, citing tight spreads and scarcity as counterweights to each other.
As HSBC concludes, “Thailand’s smooth general election allows the new administration to shift attention to lifting the sustainable economic growth rate and hence we maintain a slight overweight.”
In the fourth article of the series, FinanceAsia will examine the outlook for Asia's frontier markets.
