Investor Dialogue: Lian Chia-Liang

We speak to Western Asset Management’s regional investment head about the Great Rotation and the need for price discipline in new bond issues.
Lian Chia-Liang
Lian Chia-Liang

Lian Chia-Liang joined Western Asset in 2011 as head of investment management for Asia ex-Japan, based in Singapore. He was previously head of emerging Asia portfolio management at Pimco, where he helped establish the Singapore desk.

Are you increasing your exposure to Asian fixed income?
Yes, we are. Our Asian Opportunities Fund crossed the $1 billion mark in January for the first time. This growth slowed down over the Lunar New Year break but appetite for exposure to Asian fixed income remains firm, despite all the talk of the Great Rotation out of bonds into equities.

So investors are not rotating out of bonds?
I don’t think so. The term `Great Rotation’ misses the point that these two asset classes are very different and are meant for investors with different risk profiles. We feel that there is a place for both assets in spite of swings in market sentiment. We do not think it is necessarily substitutional. The whole Great Rotation argument rests on the premise that investors will sell bonds to buy equities, and we do not think that this is necessarily true. It is not a zero-sum game. We believe it is a growing pie and that both asset classes can exist amid a rebound in market sentiment.

Anecdotally though, private banking money — which has driven demand for Asian bonds — is said to be rotating out of bonds into equities.

Are you concerned about bond prices falling as a result of this?
I think that the investor base for both local currency and US dollar bonds has evolved in a very meaningful way.

When I first started out, back in the late 1990s, the investor base for Asian bonds was almost entirely focused on US investors and proprietary books of investment banks. For a new bond deal, the main focus was to get the sponsorship of US investors. In the mid 1990s, private banks were hardly interested in Asian bonds but, today, they are one of the key drivers of demand. At the same time, we are seeing the growth of institutional investor appetite outside the Asia Pacific region. This includes central banks and pension funds, which represent sticky money. I think the investor base is much broader now. A more diversified investor base will result in more not less stability. Should private banks rotate from bonds to equities, then prices will adjust and this will make it more attractive for other investors to buy bonds.

We have seen record high-yield dollar bond issuance in January. How well has the supply been absorbed?
The total supply for Asian dollar bonds in January was about $23 billion and high yield was a strong feature to it, so we were quite concerned about the supply. To manage it, we instilled the discipline of price limits for the credits we were interested in buying.

Truth be told, we were priced out of some of the credits we wanted to buy, as pricing was tighter than what we considered fair value.

And we missed out on some of the deals that did quite well in the initial one to two days. But the good news for us is that markets saw a marked correction at the end of January and early February as liquidity thinned out.

The majority of the new deals are now underwater. We think this is a positive phenomenon as it is a healthy price correction. Although we were priced out of some of the deals, as long-term investors, we want to make sure we are not just going with the crowd.

There were over 50 new deals and we only participated in nine, which reinforces my earlier point about the need for price discipline. We are value-based managers and took advantage of some of the weakness in the run up to the Lunar New Year to add bonds we like. Since then, markets have rebounded a fair bit.

What is your view on recent perpetuals? Do they provide sufficient reward for the risk investors are taking?
We have always been very guarded on the perpetual market. These bonds are priced at a time when interest rates globally are at unusually low levels. More importantly, the structure of one perpetual can differ greatly from another, and so needs to be assessed on a standalone basis. Investors need to be aware if there is a call feature or coupon step up. Our concern is that there appears to be insufficient attention given to the detail of those structures. Therefore, we have been very careful and for the most part steered clear of corporate perpetuals.

However, there were a handful of perpetuals — particularly in the Singapore dollar bond space — that we thought were more tightly structured and we participated in some of them.

Do you think we are in a bond bubble?
You can never say never.

Having lived through the Asian financial crisis, I don’t want to take a cavalier approach to issues concerning an asset market that I am actively involved in. But bonds represent a wide credit spectrum — from government bonds to investment grade and high-yield bonds. And a bubble is an unbridled, indiscriminate and sustained increase in prices over a prolonged period of time. The fact that we witnessed a correction following a euphoric start to the year is a healthy sign. Of course, you do not know if you are in a bubble until it has burst. But at least for now, there have been episodes of correction.

But interest rates are unnaturally low — and this has driven demand for bonds. Are you concerned about a sharp sell-off in bond prices when rates rise?

We are in a period which is not normal. The non-normality of current conditions is due to immense structural challenges, predominantly in industrialised countries.

Unless those issues are firmly addressed, we think that it will take time for rates to return to pre-crisis levels. While we acknowledge that rates are very low, it is another thing to position portfolios in anticipation of a marked rise in yields.

The world feels a lot better than it did six months ago, when a Chinese hard landing felt like a real possibility.

Having said that, I don’t think the structural issues surrounding developed countries in the Eurozone, Japan or the US are resolved yet. They still need to be addressed.

Increased risk appetite does not necessarily mean less uncertainty. It simply means that the market’s perception of the world going forward looks better. But uncertainties can exist in spite of a recovery in sentiment.

What are you overweight/underweight?
We are slightly underweight duration in our Asian Opportunities Fund. We are overweight countries that give us attractive value and that we are positive about. For instance, we are overweight on the Philippines and India.

For the Philippines, we think it will migrate to investment grade status over the next 12 months. And for India, it still faces pressures from its fiscal and current account deficit, but we think that yields look appealing and the initiatives by the government send positive signals.

For high yield, we think that the sweet spot is in the strong BB space, as such credits give you attractive carry but you do not underwrite excessive duration risk, as most bonds are in the three to five-year range. An example of a strong BB name is the Chinese property company Country Garden.

What is your outlook for bonds over the next few months?
We are anticipating positive returns for Asian bonds. Using HSBC’s local currency bond index as a reference point, last year was a great year and returns were about 9% to 10%.

This year, the index is unlikely to repeat those returns but we think the local currency market can still achieve returns of 6%. The great thing about local fixed income is that the drivers of return often come from multiple sources, including credit, foreign exchange and rates. We feel it provides a balance and a counterweight in times of risk aversion. There is always a place for local currency bonds in our portfolio. The local bond markets also benefit from diversification. Increasingly, we see central banks in Europe in particular, investing and diversifying their ultra high quality risk into countries like Korea, Hong Kong and Singapore.

For dollar bonds, we still think that the demand will be healthy during the next six to 12 months despite the recent correction. We think credits in Asia are priced attractively versus similarly rated credits in the US. Based on some benchmarks, Asian credits are 70bp to 80bp cheaper relative to some of the investment and high-yield credits in the US.


This story first appeared in the March issue of FinanceAsia magazine

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