Five reasons to be optimistic about Asian local bonds
Asian local currency bonds have delivered strong performance compared to other major bond markets. We explore the key drivers that continue to make the asset class an attractive opportunity for investors.
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Asian local currency bonds have delivered strong performance over the past five years compared to other major bond markets, demonstrating remarkable resilience - the Markit iBoxx Asia Local Bond Index achieved a cumulative return of 14.8% in USD terms, outperforming the Bloomberg Global, US, and Pan European Aggregate Indices, which returned -4.1%, 1.7%, and -8.5%, respectively, in USD terms.
Chart 1: Cumulative performance (%) of Asian local currency bonds vs. other major bond markets (in USD)
The Asian domestic bond market primarily consists of government bonds and quasi-sovereign issuers, boasting a high average sovereign rating due to favorable credit metrics (e.g., debt-to-GDP ratio, external debt ratio, current account balance, foreign direct investments, and growth prospects).
Looking ahead, we have identified five reasons for investors to be optimistic about Asian Local Currency Bonds.
1. Room for rate cuts in Asia as inflation returns to target – should benefit local currency bonds
Asian rates are set to benefit from the US Federal Reserve's rate-cutting cycle, as central banks in the region are likely to follow suit with policy rate cuts. Inflation has returned to target levels in most countries, and real rates are starting to look high. Notably, Bank Indonesia pre-empted the Fed by cutting its policy rate by 25 basis points to 6.00% on September 18, as the path for the federal funds rate became clearer. The weakening US dollar and expectations of further Fed rate cuts have supported Asia currencies, allowing central banks to focus more on domestic drivers such as growth, inflation, and financial stability when formulating their monetary policies.
Chart 2: Asian CPI (consumer price index) vs. Central Bank Target (where applicable)
2. Benefit from a potentially weaker US Dollar as rate differentials narrow
With the US Fed showing limited tolerance for further labour market cooling and starting an easing cycle with a 50-basis points risk management cut, we see scope for the US dollar to soften as US-Asia rate differentials narrow. Notably, exporters in Asia have been holding onto strong earnings in the US dollar, expecting the currency to strengthen further. However, as the outlook has now been challenged and more corporates will likely convert their US dollar holdings to local currencies, we expect Asian currencies to be supported.
Chart 3: Trend of Asia FX weakness is showing signs of reversing
3. Improving growth prospects in Asia supports risk sentiment
Asian growth is expected to be resilient, driven by continued disinflation, monetary easing, fiscal stimulus and tech-driven export upswing. The outlook for Southeast Asia is particularly positive, as the region benefits from advantageous trade dynamics due to its downstream positioning in the IT, AI, and electronics supply chains. Overall, we believe this positive growth trajectory in Asia will enhance both the sovereign credit metrics of the countries and risk sentiment towards the domestic bond markets.
4. Increasing recognition by international investors through Index Inclusion
The inclusion of China government bonds in the three major bond indices (Bloomberg Global Aggregate, JPMorgan GBI-EM, FTSE WGBI) has been completed. India's inclusion in the JP Morgan Global Bond Index-Emerging Markets (GBI-EM) index started in June 2024, while South Korea’s inclusion into the FTSE Russell World Government Bond Index (WGBI) will start in November 2025. With growing recognition from global index providers and international investors, Asian local currency government bonds are well-positioned to attract structural inflows from global investors, who remain under-allocated to this asset class.
5. Attractive risk-adjusted returns with low correlation to other bond markets
Inflation has been more benign in Asia compared to developed market counterparts over the past few years, thanks to relatively disciplined fiscal policies and conventional monetary policies. This has resulted in lower volatility in Asian rates and has partly contributed to their outperformance relative to other government bond markets (the US, G7, and Emerging Markets) in terms of risk-adjusted returns. The low correlation with other markets also makes this asset class a potentially attractive tool for diversifying risks in a broad aggregated portfolio.
Chart 4: Correlation of Asia government bonds with other markets over 5-year and 10-year periods
Asian local currency bonds boast a number of potential tailwinds as many central banks start the rate cutting cycle. Coupled with a potentially weaker USD, strong sovereign fundamentals, a resilient growth prospect and the increasing capital allocation from international investors, Asian local currency bonds have the potential to continue their strong performance.
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