Asia-Pacific investors remain optimistic about economic prospects in the region, with many of them looking to increase their exposure to bonds, a new survey finds.

Investors plan to allocate nearly 46% of their assets to fixed income over the next 12 months, up from 37% a year ago, according to the survey released by State Street Global Advisors, the asset management business of State Street Corporation. And they plan to deploy 28% of these investments to Asia ex-Japan, an increase from 26% a year ago.

The next most important destination for fixed income allocations is Japan, which remains steady at about 16% across all the time frames. Only 14% and 13% of their assets are invested in North American and European fixed income, respectively.

"The recent cycle of interest rate hikes has revitalized the role of bonds in generating income, a function that had diminished during a decade of historically low yields prior to the US Federal Reserve's rate increase in March 2022," says Marie Tsang, fixed income ETF strategist for Asia-Pacific at State Street Global Advisors. "Apart from home bias, Asia's robust economic backdrop is boosting APAC investor sentiment. The growing allocation to Asia ex-Japan fixed income among APAC investors underscore a growing confidence in the region's fixed income markets as a source of stable returns."

When asked about which fixed income region they expect to perform best in 2024, 36% of survey participants said Asia ex-Japan, followed by 15% for Japan, and 14% for North America. Only 9% expressed optimism about Europe's bond market being a top performer.

Rising confidence

"With inflation gradually coming under control, there is a widespread expectation of global interest rate cuts, which bodes well for the continued outperformance of many Asian bond markets. Investors are feeling more optimistic about the region compared to more mature markets," explains Kheng Siang Ng, Asia-Pacific head of fixed income and head of Singapore at State Street Global Advisors.

"Another reason for the increasing confidence in Asian fixed income is the markets are becoming increasingly investor-friendly, with many countries liberalizing their capital markets and expanding their bond investor base through regulatory reforms and enhanced financial infrastructure," Ng adds.

For example, onshore Chinese bond market is opening up significantly with the support of Hong Kong as an international financial gateway. Initiatives like Bond Connect and Swap Connect have facilitated mutual market access and improved hedging efficiency for international investors. These efforts have heightened global interest in onshore Chinese bonds, particularly with their inclusion in global bond indices.

Income, diversification

The survey indicates that 41% of APAC investors are investing in bonds to generate income, compared with 31% who are seeking diversification and 30% who are motivated by sustainability-related goals.

"Asia's bond markets present a compelling alternative to other fixed income markets," says Ng. "A lot of investors are now looking to diversify away from their traditional bond exposure, recognizing that the various markets in Asia behave differently. The Asia fixed income landscape offers diverse economies, along with stability, attractive yields, and a growing diversity of domestic investor bases in terms of types and sizes."

The survey finds that APAC investors have a strong preference for short to medium-term maturities. 64% prefer bond maturities up to 10 years, and the 6–10 years range is the most popular, at 46%. Just 7% prefer to hold maturities over a period of 15 years.

When it comes to the quality of bonds, APAC investors are increasingly leaning towards the higher end of the credit spectrum. A year ago, 66% of institutional investors said the lowest-rated bonds they were willing to hold were all rated A and above. This has now risen to 71%, and is 74% for investing intentions in 12 months' time.

"Local institutions tend to favour sovereign and quasi-sovereign bonds for their higher credit ratings and relative stability. APAC investors – particularly life insurers, banks and pension funds – have an ongoing appetite for investment-grade bonds, and they represent a key source of capital flows into these assets," adds Tsang.

Key concerns

Investors based in Asia-Pacific view the region favourably for fixed income investments, but there are concerns about recession ( 37% ) and inflation ( 37% ), followed by geopolitics and currency depreciation ( 35% each ). Despite these concerns, the positives outweigh the negatives, driven by the growth in local bond markets.

"Borrowers, from corporates to sovereigns, are shifting funding from US dollars to domestic markets, showing investor confidence. Additionally, ageing wealthy societies like Japan, South Korea, and Hong Kong prefer the safety of fixed income investments over equities, further supporting the region's bond markets," Ng says.

The survey was sponsored by the ABF Pan Asia Bond Index Fund, an exchange-traded bond fund which seeks to provide investment returns that corresponds closely to the total return of the Markit iBoxx ABF Pan-Asia Index. It included responses from 600 asset managers, asset owners, family offices, private banks and commercial banks in the APAC region.