The Asian high yield bond market has been a strong performer globally so far this year. Represented by the KraneShares Asia Pacific High Income USD Bond ETF (ticker: KHYB), the Asian high yield bond market has outperformed both global investment grade and global high yield bonds year-to-date (YTD).1
Year-to-date performance comparison
Crane Shares
Performance data quoted represents past performance. Past performance is not a guarantee of future results. Investment income and principal value of an investment will fluctuate so that an investor's shares may be worth more or less than their original cost when redeemed or sold. Current performance may be lower or higher than the performance quoted. For current performance data through the end of the last month, please visit our website at www.kraneshares.com/khyb.
KHYB is denominated in US Dollars and is actively managed by Nikko Asset Management, a leader in Asian fixed income with over 30 years of market experience. To read Nikko's latest commentary on Asian bond markets, click here.
What led to this outstanding performance?
Short duration
Interest rate risk has been driving most fixed income market returns over the past six months. Going into 2024, some analysts were optimistic that the US Federal Reserve would move quickly to cut interest rates, pricing in up to six cuts throughout the year.2 This led to a rally in investment grade bonds globally. However, the rally stalled earlier this year as rate cuts failed to materialize.
High yield bonds issued by blue chip Asian ex-Japan companies tend to have shorter maturities compared to their US and global peers, resulting in lower overall duration, or interest rate risk, compared to emerging markets overall and the US. This makes the bonds held in KHYB's portfolio less vulnerable to interest rate volatility.
High Yield Duration
Crane Shares
Asian corporate balance sheets are strong
The interest coverage ratio measures a company's ability to pay interest on its debt by dividing earnings over a period by net interest expense. Thus, the higher the coverage ratio, the better a company's ability to cover its interest payments. Asian high-yield bond issuers recorded an average interest coverage ratio of 4x in 2023, despite tensions in China's real estate industry. This is roughly on par with the current average in the United States, where spreads remain tight. Meanwhile, the 10-year average interest coverage ratio is over 5x in Asia ex-Japan, compared with just 2.6x in the United States.3 This is likely to have boosted investor confidence and blunted potential selling pressure.
Limited Supply
In 2023, issuance in Asia ex-Japan high-yield bond markets hit a decade low.4 Meanwhile, demand from regional institutional investors remains strong, according to Nikko Securities,4 and price performance has been strong despite limited issuance in the market.
What is driving the continued strength of Asia's high yield bond markets?
Strong economic growth in the region
In July, the International Monetary Fund (IMF) raised its 2024 GDP growth forecast for India to 7% from 6.8% announced in April.5 Meanwhile, the Southeast Asian region is projected to grow at 4.6% in 2024, up from 4.1% in 2023.6 Growth trends in the region are fundamentally supported by structural changes such as policies by many central banks considering interest rate cuts as inflation moves closer to target, and the “China + 1” strategy of global manufacturers to shift parts of their supply chains to other countries in the region to avoid import tariffs.
Potential recovery for China property bonds
Most of China’s first-tier cities have lifted home-purchase restrictions that were introduced as part of a larger de-risking of the housing sector that began in 2021. Meanwhile, the phrase “homes are for living in, not for speculation” was absent from the government’s statement after the Third Plenum, a key policy meeting held in Beijing last month.7 That could allow private developers to ramp up sales again, benefiting bonds that are now trading at steep discounts.
In US Dollars
All of KHYB's bonds are denominated in US dollars. With the dollar hitting record highs and the US Federal Reserve likely to cut interest rates later this year, the US dollar is likely to weaken significantly over the next few years. This will benefit the financial health of Asian high-yield bond issuers whose proceeds are denominated in local currencies, making coupon and interest payments more sustainable.
Conclusion
The Asian high yield market has outperformed global investment grade and global high yield so far this year due to short duration, strong issuer balance sheets and record low supply. We believe Asian high yield is likely to continue its outperformance trend due to strong regional economic growth, a potential recovery in Chinese real estate developer debt, and improved coupon and interest payment sustainability with a potential US dollar depreciation looming.
In our view, Asian high yield bonds are worthy of inclusion in a global fixed income allocation, and the asset class's incredible performance this year is testament to its potential diversification* benefits.
Through the KraneShares Asia Pacific High Income USD Bond ETF (Ticker: KHYB), investors can gain easy access to Asia's high-yield US dollar-denominated bond market and benefit from Nikko Asset Management's market expertise.
*Diversification does not guarantee a profit or protect against a loss.
For KHYB's standard performance, holdings, risks and other fund information, please click here.
Citation:
Data from Bloomberg as of July 26, 2024. Preston Caldwell, “Predicting Six Rate Cuts in 2024”, Morningstar. December 14, 2023. Data from JP Morgan as of December 31, 2023. Data from Nikko Asset Management as of June 30, 2024. “IMF Upgrades India's Economic Outlook, Predicts Global Growth to Remain Weak”, CNBC. July 17, 2024. Data and forecasts from International Monetary Fund as of June 30, 2024. “Full Text of Resolution of the Communist Party of China Central Committee to Comprehensively Deepen Reform and Promote China's Modernization”, Xinhua News Agency. July 21, 2024.
Index definition:
JP Morgan Asia Credit Index Non-Investment Grade: JP Morgan Asia Credit Index Core Core (JACI Core) is comprised of highly liquid US dollar-denominated debt securities issued in Asia excluding Japan. JACI Core is based on the composition and established methodology of the market capitalization-weighted JP Morgan Asia Credit Index (JACI). JACI Core includes the most liquid bonds in JACI, which require a minimum of $350 million outstanding and a minimum remaining maturity of two years. JACI Core also implements a country diversification methodology. Historical returns and statistics for JACI Core are available from December 30, 2005. The non-investment grade version of the index is limited to issuers classified as non-investment grade based on the midpoint ratings of Moody's, Fitch and S&P.
JP Morgan USD Emerging Markets High Yield Bond Index: The JP Morgan USD Emerging Markets High Yield Bond Index tracks highly liquid US dollar-denominated emerging market fixed and floating rate bonds issued by corporations, governments and quasi-government entities. The index tracks bonds classified as non-investment grade (HY) in the established JP Morgan EMBI Global Diversified Core and JP Morgan CEMBI Broad Diversified Core indexes and combines them with market capitalization-based weighting. Returns and statistics are available from December 2011.
ICE BofA U.S. High Yield Index: The ICE BofA U.S. High Yield Index provides a comprehensive and accurate representation of the U.S. high yield market and its components.
Bloomberg Global High Yield Index: The Bloomberg Global High Yield Index is the leading multi-currency index of the global high yield bond market. The index represents a combination of the U.S. High Yield, Pan European High Yield and Emerging Markets (EM) Hard Currency High Yield Indexes. The High Yield and Emerging Markets subcomponents are mutually exclusive. The index was launched on January 1, 1990.
Bloomberg Global Aggregate Index: The Bloomberg Global Aggregate Index is a representative measure of global investment-grade debt in 24 local currency markets. This multi-currency benchmark includes government, government-related, corporate and securitized fixed-rate obligations from developed and emerging market issuers. The index was launched on January 1, 1990.
Definitions of terms:
Duration: A measure of interest rate risk. Duration is the change in the time it takes for a bond to be repaid, in years, for each 1% change in interest rates.
Interest Coverage Ratio: A debt and profitability ratio used to determine how easily a company can pay interest on its outstanding debts. The interest coverage ratio is calculated by dividing a company's earnings before interest, taxes, depreciation, and amortization (EBITDA) by its interest expense for a particular period.
