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EM bond outflows will reverse in H2: Credit Suisse CIO

EM bond outflows will reverse in H2: Credit Suisse CIO

The outpour of money from emerging market (EM) bonds will stall in the second half of the year, with some pockets of the market winning back flows, according to Credit Suisse’s Asia Pacific chief investment officer, John Woods.

Year-to-date, US dollar strength, the rally in crude oil and rising US Treasury yields have led to a broad sell-off in EM bonds, with currencies in Turkey and Argentina dropping to alarming levels.

Data from the Institute of International Finance showed that net non-resident portfolio outflows from EM debt hit $4.2 billion in June, contributing to EMs seeing the weakest quarter since the end of 2016.

At a press briefing in Singapore, Woods said that he expects the US dollar to weaken, crude oil prices to be stable and a gradual rise in US Treasury yields on the back of recovering global growth.

Credit Suisse expects government bonds to underperform other asset classes but has a neutral view on credit.

The Swiss private bank prefers short-duration, investment grade Asian corporate bonds as the credits returned 0.3% this year, outperforming Asian high yield by 3.3 percentage points year-to-date.

‘The rise in yields represents an outstanding opportunity in short-dated fixed income. We think value has returned,’ Woods said.

‘We are seeing a range of fixed income assets such as the 1-3 year maturity for Asian fixed income yielding levels that we haven't seen for 2-3 years,’ he added.

In the bank’s central scenario, where it expects US Treasury yields to rise gradually as credit spreads tighten by 50 basis points over the next 12 months, Asian bond portfolios are expected to deliver a total return of around 4.7%.


However, Woods is less convinced by Asian sovereign bonds due to underperformance and political uncertainty.

Preferring hard currency and local currency bonds in the rest of the EM complex, the bank is negative on local currency bonds in Thailand and Malaysia, and remaining neutral on China.

In the hard currency space, it is negative on Malaysia, India and the Philippines and has moved Indonesia to neutral given its lower carry and higher duration risk relative to the EM benchmark.

Credit Suisse also sees pockets of opportunities in floating rate notes, convertible bonds and global inflation-linked bonds.

Woods built his views on the base case that global growth will reaccelerate in the second half of the year, backed by positive GDP and services purchasing managers’ indexes (PMI) numbers, especially in the US and eurozone.

‘Not only is growth accelerating in soft forward-looking PMIs but we are also seeing it in the hard data - the all-important industrial production and retail sales,’ he explained.

The bank forecasts US growth to increase to 3.3% in the second quarter of the year, before topping out and moderating to 2.5% in the fourth quarter of 2018.

Moreover, Woods is bullish on eurozone growth as composite PMI figures head higher, and believes that eurozone growth will accelerate in the fourth quarter at a time when US growth will moderate.

According to him, the European Central Bank will hike twice next year - in September and December.

‘There will be a bit of a rotation in growth leadership  between the US to the eurozone in the second half, and this will have an absolutely critical part to play as interest rates expectations,’ he said.

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