Macro View

• The bond market is set up for a continuation of constructive flows. This is due to two main factors: the recent change in strategy by the US Federal Reserve (the central bank of the United States), and the new economic stimulus package announced by China.
• The announcement of the People’s Bank of China (PBOC) and other regulators about a comprehensive policy stimulus package has exceeded market expectations. This included lower interest rates, lower reserve requirement ratio (RRR), relaxation of mortgage policy and instruments to support the China stock market. Compound that with more policy guidance of fiscal expenditure and plans to inject common equity into the big six banks in stages. We see these measures as positive for sentiment and market dynamics.
• With the big debate of first Fed cut of 25 or 50 over, the other focus for the next quarter will be US elections and US data surprise as a secondary concern. A soft landing in the US combined with the FED’s measured cutting cycle, should provide a relatively supportive backdrop for Emerging Market assets. The risks to this narrative is pricing in too much positive news and potential geopolitical risk flares. Volatility is not unexpected and could present buying opportunities in the next couple months.
• In the United States, the focus has shifted from debating whether the Federal Reserve will cut interest rates by 25 or 50 basis points (bps), to the upcoming US elections and how economic data might surprise analysts. If the US achieves a “soft landing” and the Federal Reserve implements a measured reduction of interest rates, this should create a supportive environment for assets in emerging markets. However, there are risks to this positive outlook. The market might price in too much positive news and potential geopolitical risk flares. Volatility is not unexpected and could present buying opportunities in the next couple of months.

• We remain positive on bonds with short to medium-term maturities. We recommend keeping the average duration of bond investments at about 5 years. We believe that a 4% yield is now as attractive as 5% used to be, given that we are entering a period of decreasing interest rates. The main question now is how quickly rates will fall. We expect corporate bond yields to gradually decrease. We prefer investment-grade bonds for good fundamentals and carry. As the Federal Reserve lowers interest rates, we anticipate that investors will move money from money market funds into bonds. Currently, there is a record USD 6 trillion in money market funds. This shift will happen gradually, but we expect it to be a consistent trend. While we favor medium-term bonds, we would also consider adding longer-term bonds if their prices drop significantly (UST 10yr at 4.15-4.25% area).
• We want to focus on high-quality bonds while still finding slightly higher yields (4.5-5%) compared to typical Asian and US investment-grade bonds (which yield 4-4.5%). We particularly like BBB-rated bonds (medium investment-grade) from Southeast Asian issuers.
• Starting with sovereign bonds, we favor those from the Philippines – PHILIP (ROP) and Indonesia (INDON). For state-owned enterprises, we like DEVPHI (Development Bank of the Philippines), PERTIJ (Pertamina, Indonesia’s state-owned oil company), PLNIJ (Perusahaan Listrik Negara, Indonesia’s state electricity company), and IDASAL (IDBI Bank, an Indian public sector bank). For corporate bonds, we prefer: SMPM (SM Prime Holdings), AEVPM (Aboitiz Equity Ventures), JGSPM (JG Summit Holdings), ICTPM (International Container Terminal Services).

Peso Bond Strategy

• Given the steepening of the Peso Government Securities (GS) yield curve and participants factoring in recent central bank statements about the possibility of two more rate cuts this year, we believe trading clients would benefit the most by having exposure in the back-end of the curve, particularly in the 10- to 20-year sector. Gross yields of these bonds currently range from 5.650% to 5.800% and these should appreciate the most with the central bank looking to continue its easing cycle in the next two years.
• For clients looking to hold until maturity, we recommend accumulating 7- to 10-year bonds as these offer significant yield pick-up of at least 10 bps versus bonds in the 1- to 2-year bucket. Although GS supply to be offered by the Bureau of the Treasury in the fourth quarter has been reduced, better entry levels may still be achieved by participating in these auctions versus buying in the secondary market.
• We are also optimistic about select Philippine companies for the additional yield over government benchmark bonds. We prefer the 3- to 5-year bonds of Filinvest, Aboitiz Equity Ventures, and Maynilad. Filinvest is one of the leading full-range property developers in the country with a diverse project portfolio. Meanwhile, Aboitiz is one of the best-managed companies exposed in in power, banking and financial services, food, infrastructure, and land. Lastly, Maynilad is a defensive utilities company that remains the exclusive water service provider for the West Zone of the Greater Metro Manila Area.