Both investors and issuers need to know when Asia’s huge local currency markets can provide a real alternative to the G3 markets.
For some issuers and investors, Asia’s local currency bond markets can be perceived as something of a sideshow when compared to the regional debt issued in G3 currencies. But issuers and portfolio managers that overlook these markets run the risk of missing opportunities that can arise from these regional pools of capital.
In terms of size, issuance in local currencies dwarfs the debt issued in G3 currencies. In 2017, Asia printed notes worth USD412 billion in US dollars, euros and yen, compared to USD1.5 trillion in the region’s local currencies.
“There is a huge amount of capital in Asia, and I think it is absolutely critical for the future of the region to be able to unlock the potential and recycle those savings into interesting investments that promote development,” said Sean Henderson, Managing Director and Co-Head of Debt Capital Markets, Asia Pacific, at HSBC.
When a local currency market is the right choice
Both investors and issuers need to understand when the local currency markets can provide a real alternative to the G3 markets. For a company with a balance sheet exposure to a particular market, it can make sense to issue debt locally in the same currency rather than issue US dollar-denominated debt and swap it back into the local currency.
Singapore’s United Overseas Bank (UOB) is one issuer that has extensive experience in tapping Asia’s local markets – for example, it raised USD750 in 2016 to increase its capital adequacy. UOB’s Head of the Group Treasury Unit, Chin Chin Koh, highlighted the way that local issuance helps the bank cultivate a broader investment base.
That said, she also pointed to some of the challenges associated with accessing some markets where liquidity is limited. For example, a deal that can be easily absorbed by investors in the offshore dollar market might be too big for a local market to digest quickly. Also, the execution process can vary, with book building taking as long as two weeks in some markets compared with intraday completion in the offshore dollar market.
Ms. Koh emphasised the importance of pre-planning to ensure that local currency deals can be completed as quickly as possible, thus minimising the chance that market events can affect the pricing during the extended book building process. Liquidity in local markets is also an issue for investors, said Alfred Mui, Director and Head of Asian Credit - Asian Fixed Income Team, at HSBC Global Asset Management. “The deal structure often takes the form of a club deal or a private placement, so that when you’re in a deal, you’re pretty much married to it,” he said.
A growing emphasis on ratings
Another potential impediment for international investors allocating capital to local markets is the fact that issuance in many countries are mostly unrated, which is a challenge to portfolio managers who are required by their mandate to buy debt that meets a certain rating. There is however a growing realisation that ratings can help deepen a market by bringing in investors that would otherwise be unable to invest, said Vicky Melbourne, Senior Director and Head of Industrials, Southeast Asia and Australia, at Fitch Ratings.
From a regulatory point of view, she said that ratings can help the regulator spot systemic risk in the financial system by making it possible to assess the quality of the bonds that the local banking sector holds. And against a backdrop of rising defaults in some markets, “a ratings agency can add value from a transparency perspective, as investors can use our ratings to spot risks before a default happens,” she said.
HSBC’s Alfred Mui concurred that ratings are a key consideration when deciding whether to include an asset in his portfolio. But at the same time, he said that a rating is only as a good as the agency that assigns it, citing concerns over certain markets where local agencies assign top ratings to nearly all the bonds on the market, blurring the distinction between high quality and poorer credits.
An evolving landscape
Each individual market is different, with its own regulations and procedures for international investor access. Taken together, all the markets form a spectrum. In Singapore, access is open and liquid. In China, foreign investors are required to enter market via special channels such as Bond Connect and the China Interbank Bond Market programme.
Offshore local currency products provide an important bridge for investors that want exposure to these markets, but find onshore access difficult, said Chris Jones, Managing Director, Debt Capital Markets Technology Lead & Global Head of Local Currency at HSBC. For several years, Dim Sum bonds have proved a popular option for Chinese issuers that want to issue offshore paper denominated in renminbi. They have been followed by India’s Masala bonds, and most recently Komodo bonds – rupiah-denominated debt sold in the international market.
The region’s markets are evolving, and there is greater integration with the international system as well as a recognition of global standards. Looking to the long term, Mr. Jones foresees a more seamless investment landscape. “We believe that the endgame is a homogeneous and consistent regime between international and domestic markets.”