20.01.2020

Diamond Capital Management (Switzerland) Ltd.

Asia HY 2019 review and Angsana Bond Fund positioning

2019 was a year in which long duration bonds did well mainly due to (1) the FED cutting interest rates 3 times (75 bps in total); (2) strong inflows into fixed income which spurred buying of long duration bonds (as short duration bonds was limited in quantity and inadequate to meet increased demand); (3) a robust rally in risk assets globally as evidenced by the strong performance of global equity and bond indices, driven by central banks’ easing monetary policies and a US-China trade deal at end 2019. Having said that, we note that yield curves are now very flat across most corporate credit and sovereign bonds (i.e. investors are getting minimal yield pick-up to extend duration) after the strong performance in 2019 – and this is in an environment where global GDP growth is slowing, central banks (particularly in developed markets) are running of out tools to further stimulate the economy (interest rates are close to the lows), and leverage is at relatively high levels in developed markets (due to cheap funding costs over the recent years). We’ve now witnessed the longest period of US economic expansion in history, and in combination with the aforementioned points, in our opinion, it’s quite safe to say that we’re closer to the end of a global economic cycle than we are to the middle or beginning. As such, we think it’s prudent to be positioned with a healthy dose of caution and be selective with risk-taking at this point in the cycle. Having said that, we expect the global economic slowdown to be gradual and anticipate a gradual rise in default rates. Therefore, we expect a short to mid duration type positioning in Asian high yield (with a bias towards higher quality issuers) will be able to generate a respectable mid-to-high single-digit (per annum) return over the next one to two years. In our opinion, a positioning of this nature will allow the fund to minimize downside risk from defaults (due to bias towards higher quality issuers) and mark to market risk (as longer duration bonds tend to sell more during a re-pricing). As such, we’ve positioned Angsana accordingly.

Angsana’s total return performance:
Angsana Asian HY fund (USD 330mn AUM) total return:
2019: +8.66% (Duration: 1.36 years)
2018-2019 (over 2 years): +9.62%
2016-2019 (over 4 years): +34.77%
We remain focused on managing the fund based on a risk-adjusted approach (i.e. delivering quality returns rather than being overly reliant on market beta), and the fund’s track record demonstrates that – Angsana ranks as one of the top Asian high yield funds over 2018-2019 two-year period (when including the difficult 2018 year) despite having a fund duration (of 1.36 years in 2019) that was less than half that of many of our peers in 2019. Across a longer period, Angsana ranks as the No. 1 Asian high yield fund globally (based on cumulative total return) over the 4 year period from 2016 to 2019.
 
Asia HY Market comment:
On December 13th 2019, the US and China announced a phase one trade deal and the US cancelled the proposed tariff hikes set for December 15th 2019. Upon signing the deal, the US will maintain 25% tariffs on USD 250bn of China imports, and 7.5% tariffs (down from 15%) on USD 120bn of goods, and the US is expected to roll back existing tariffs in phases. In exchange, China agreed to (1) protect IP and fight pirated and counterfeit goods (2) end forced technology transfers and restrict outbound investments aimed at acquiring foreign technology (3) open up the financial services sector. In addition, China plans to import more goods and services from the US over the next two years (2020-21). The US also scrapped plans to impose a 15% tariff on USD 156bn of products from China, while China suspended retaliatory tariffs of 5-10% on a subset of USD 75bn of US products and delayed the re-imposition of 5-25% tariffs on US autos and auto parts on December 15th. Phase two negotiation is expected to begin shortly after signing of the phase one deal.
In January 2020, the People's Bank of China (PBOC) announced a broad-based RRR cut of 50 bps for all banks, which will be effective from January 6th 2020. This cut is estimated to release around 800 billion RMB of liquidity and reduce banks’ funding costs by 15 billion RMB per year. As it relates to the China property sector, the year to date contracted sales of the major developers as of the end of December rose 20% y/y (with the month of December registering +17% y/y growth).
Looking forward into 2020, the mix of fiscal stimulus in China is likely to shift from tax cuts (many of which were implemented in 2019) to spending, which tends to have a higher multiplier effect on the economy. The Central Economic Work Conference (CEWC) held in December 2019 called for more investment in infrastructure, including key railway and telecommunication networks, rural roads and irrigation projects.
As a whole, we remain relatively defensively positioned by being biased towards higher quality credits and shorter duration. Having said that, we expect default rates to remain manageable, as credit fundamentals are sound, and the slowdown in global growth is expected to be gradual.
FactSheet Angsana Bond Fund