Risk normalization continues

15 March 2019

Ani Deshmukh

RAM Active Investments RAM (Lux) Tactical Funds II - Asia Bond Total Return

The positive sentiment from January continued into February, with risk assets remaining well bid across asset classes. While tailwinds from lower USTs abated (yields were about 9bps wider for the month), supply in Asia remained lower than expected, especially in the benchmark IG space which saw net supply of US$8.6bn in February, underwhelming expectations. As a result, spreads continued to tighten in Asian credit with IG bonds seeing a 8-10bps tightening, while HY (which saw continued issuance) witnessed bonds tighten by about 1pt in February. Risk free UST rates did see a 10-12bp widening into the month-end, tempering IG bond performance. On the geopolitical front, oil prices continued to firm up as Brent traded at $67/bbl in end February supported by supply cuts by OPEC. EM assets have thus far ignored this move, as global inflation data remains range bound. Finally, global fund flows into EM debt reversed and remained strongly positive ($15.48bn YTD) as investors reallocated capital to the asset class after a strong start to the year.

Macro risks and growth pressures remain key risks, carry attractive.

Looking back at the last 3 months, the change in sentiment towards EM assets can be explained by the following main factors: the dovish stance by the Fed, the easing bias by China and the perceived progress in the U.S. China tariff wars. As valuations cheapened at the end of 2018, this has created a supportive backdrop for risk appetite in 2019. However, with IG spreads tighter by ~35bps and HY bonds up about 5 points YTD on average, the valuation support has weakened. Global macro risks such as Brexit (whose fate will be known by March-end) and a definite solution to the tariff issues still loom in the horizon. Inflation (through oil) is a tail risk for EM and Asia that is reemerging, and the upcoming earnings season as well as national elections in key Asian countries like India, Indonesia, Thailand and Philippines are likely to create uncertain outcomes in the coming months. In our view, a repricing of the Fed’s hiking path, coupled with weaker corporate earnings could be the catalyst for capping the current market rally, which has largely been macro/rates driven. While spreads remain attractive for carry in a range bound rates environment, we would need fundamental support for regional and corporate growth to build conviction for further spread compression.

Our Fund’s February performance was largely in line with the index. We increased duration modestly to 3.2 years given the rates environment, but we continue to be defensive versus the index in that regard as the swing in the Fed’s hike expectations appears a bit overdone at this stage (rates markets pricing in a rate cut at the next Fed move). The domestic economic strength coupled with a possible improvement in US China trade relation could rekindle expectations of a rate hike later in 2019, while higher oil prices would put a lid on EM risk sentiment. We have populated the portfolio with higher quality bonds, preferring to trade up in the rating spectrum and increase our exposure to sovereigns rather than corporates given better technical valuations going forward. We have also rehedged our rates exposure partially towards month-end and will continue to dynamically manage it.

Nexus Investment Advisors Limited, subject to the supervision of the Securities and Futures Commission (SFC) in Hong Kong, has been appointed by the fund's management company as investment manager to RAM (Lux) Tactical Funds II - Asia Bond Total Return Fund.

*Sources : Nexus Investment Advisors Limited