Bonds in Australia and Singapore are getting a lift from rising questions about the appeal of Treasuries, as fears that a proposed US tax bill may hit foreign investors add to pressure following a recent ratings downgrade.
Strategists and portfolio managers are re-examining whether Treasuries are offering enough compensation, a rare challenge to the place of the world’s largest bond market in global portfolios. Taiwanese insurers are making plans to back away from dollar assets, while Hong Kong pension funds have been told to draw up contingency plans for a further downgrade of the US.
“A huge amount of fiscal risk is not priced into US bonds — the downgrade, the fiscal package, investors stepping away from lending the US government money,” said Kellie Wood, head of fixed income at Schroders Plc in Sydney. “The potential for a fiscal misstep is increasing.”
That is adding to the appeal of the world’s dwindling supply of AAA rated bonds. The spread between Australian 30-year bonds and equivalent Treasuries is around its narrowest level in a year, a sign that investors are putting more of their money into the Australian debt. The gap between the same maturity bonds from Singapore and the US is near a record discount.
Australian 10-year yields declined 11 basis points on Friday, before slightly paring on Monday. Demand for the bonds is also being fueled by bets on more interest rate cuts by the Reserve Bank of Australia, which has signaled further easing to soften the blow of global economic turmoil.
Taiwanese and Japanese insurers, and Australian pension funds, have for years piled into the US bond market as the obvious play to pick up safe long-term assets. But recent market volatility and continued questions about the US fiscal position are forcing a re-think.
When Moody’s Ratings downgraded the US in the middle of May — becoming the last of the three big credit rating companies to lower its ratings from the highest level — it warned that the country’s fiscal deficit, government debt and interest burden would all rise over the coming years. It was just the latest sign of growing fears about Washington’s fiscal position.
Some institutional investors will be hunting for alternatives in the wake of the downgrade, said Yifei Ding, a senior fixed income portfolio manager at Invesco in Hong Kong, adding that AAA bonds in Asia Pacific will be among the winners.
A tumble in the value of the dollar has also put pressure on investors across Asia to find alternatives. When Taiwan’s currency surged against the greenback last month, it raised questions about the damage to the island’s $1.2 trillion life insurance sector. Regulators have moved to calm nerves, and are now considering easing rules on how insurers report their assets to soften the blow of the dollar’s decline.
One large Taiwanese insurer has already begun building a small position in top-rated Australian and UK corporate bonds to diversify from US dollar-denominated assets, according to a money manager at the firm who declined to be identified because they aren’t authorized to discuss investment decisions.
Reserve managers are likely to shift toward the Singapore dollar market over time given it’s the only AAA market in Asia, according to Goldman Sachs. Meanwhile, foreign investors in Australia’s government bond market are set to face competition from local pension funds, whose demand for Aussie notes may outpace issuance, according to Bank of America.
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