We are changing our view for Asian USD credit relative outperformance (see Credit: Assessing the impact from Russian sanctions, 3 Mar 2022) to a guarded stance. Asian credit has far outperformed European credit since the eruption of conflict between Russia and Ukraine, with our Asia ex-Japan DACS being little changed from end-2021 levels, while both European IG and Crossover CDS spreads have already widened to May 2020 highs (see Credit: Downside risks for Europe increasingly priced in, 6 May 2022). However, we now see two major headwinds that could pressure Asian credit.
First, China’s firm commitment to a zero-Covid policy implies a more uncertain and softer growth outlook for China and for the rest of Asia, given China’s outsized impact on the region. Investors are wary of spillovers from lockdowns in major cities, which could exacerbate supply chains woes, weigh on demand for basic materials and distilled products, and inhibit Chinese real estate sales during this crucial period of deleveraging. Liquidity stress in Chinese real estate is still a concern—one of China’s largest developers has missed USD bond payments beyond the grace period, which may trigger cross-defaults on all USD7.7bn worth of its offshore bonds. Even if PBoC increases policy support, there is little wiggle room for dramatic easing with the US Fed set to enact sharp rate hikes.
Second, Asian credit now look relatively less attractive after a substantial widening in US credit spreads. Concerns of Fed rate hikes and QT have weighed on US credit so much that US IG spreads are now higher than its 2019 peak, when financial conditions pressured the Fed to cease its rate hike cycle. This has resulted in Asian USD IG credit losing its historical spread premium relative to US IG. To be fair, Asian credit has much shorter duration than US credit, and its overall spread should naturally see a smaller impact from steeper credit curves compared to the US. But relative valuations have still moved enough that we favour a rotation out of Asian credit to US credit from here.
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