Matthews Asia Total Return Bond Fund
The Fund's name changed from the Matthews Asia Strategic Income Fund to the Matthews Asia Total Return Bond Fund on 25 May 2020.
Period ended 31 March 2020
For the quarter ending 31 March 2020, the Matthews Asia Strategic Income Fund returned -12.26% while its benchmark, the Markit iBoxx Asian Local Bond Index returned -3.76%.
The first quarter of 2020 was characterized by market reactions to a global pandemic caused by Covid-19. Unlike crises of past two decades, this one resulted in a sudden stop of economic activity for a broad percentage of the global economy. The velocity of the selloff and the breakdown in correlation amongst asset classes was unprecedented. While it is too early to say that we are past the trough of the crisis, the toughest weeks in March were characterized by a dash for cash and a dollar panic. As investors grappled with the double whammy of Covid-19 and the breakdown in talks amongst the biggest oil producers, investors sold indiscriminately to raise cash—essentially a run on all financial assets. All assets tumbled, as both risky assets and safe haven assets such as gold and U.S. Treasuries were being sold for U.S. dollars. Correlations converged to 1. It was at this time that credit spreads and yields rose across local currency Asian bonds. In response, the U.S. Federal Reserve promise to “do whatever it takes” to restore stability at the low-risk end of the market—buying investment grade credit, agency mortgage-backed securities, commercial mortgage-backed securities, and municipal bonds in the U.S. and providing dollar swap lines with foreign central banks—provided some reprieve. At the time of writing, we have slipped from the third stage of “Dash for cash” back to the second stage of the markets trying to assess the length and depth of a global recession resulting from a sudden stop of global economic activity.
Ironically, the eye of the storm, China has been the safest so far, followed by North Asia. In the first quarter, Chinese High Yield as represented by the China portion of JP Morgan Asia Credit High Yield Total Return Index returned -8.0% while U.S. High Yield, as represented by the Bloomberg Barclays US High Yield Total Return Index returned -12.7%. Asia credit also outperformed EM credit, as the JP Morgan Asia Credit Index returned -3.47% while the JP Morgan Emerging Market Bond Total Return Index —Global subindex returned -12.6%. Asian currencies outperformed both developed and wider emerging market currencies: Asian currencies in the Markit iBoxx Asian Local Bond Index returned on average -4.8% versus -6.5% for Developed Market currencies and -13.1% for EM currencies.
China and North Asia were the first to face the COVID-19 pandemic, the first to employ strict measures against it, and the first to have complete coronavirus case curves for financial markets to make sense of. In contrast, climbing coronavirus curves in countries elsewhere, including the U.S. and Europe, presented lingering uncertainty for their markets. For the U.S. and non-Asian EM countries, the fall in oil prices represented another credit risk. Oil at US$20-30 a barrel is lower than the long-term break-even cost of most U.S. shale players and EM oil exporters, hence why Saudi Arabia drove the prices so low to gain market share.
Performance Contributors and Detractors:
During the first quarter, a key driver of performance was the Fund›s exposure to USD high yield issuers, which sold off in the risk-off environment, with high yield spreads widening by over 400 basis points (4.0%). In general, lower-rated bonds underperformed higher-rated bonds. In terms of geography, China issuers made up a large portion of our high yield exposures, and were also the biggest detractor to performance, particularly real estate names. Indian and Indonesia high yield exposures also contributed to the negative performance.
Within currencies, our underweight to most local Asian currencies contributed to performance given the strong USD environment and the depreciation of Asian FX across the board.
Notable Portfolio Changes:
In local currency bonds, we increased our exposure to Malaysia and China. In China, we added investment grade-rated corporate bonds, Cinda Asset Management and China Construction Communications Group. This boosted our allocation to relatively lower volatility currency and upside as interest rates in these economies fall. We reduced duration exposure to Korea by selling Korea government bonds and Lotte Shopping, a local currency convertible bond. Additionally, we reduced our exposure to India by selling local corporate bonds, taking rates and currency in India to underweight. We reduced our exposure to India as we believe the Indian local market lagged the risk-off sentiment seen in other global markets. We also took profits on our our local currency Vietnam government bonds.
On currencies, we marginally increased our exposure to the Thai baht and the Korean won.
Finally, in U.S. dollar-denominated bonds, we added investment grade corporates such as Geely and Jollibee. We believe these names have been overly punished throughout the coronavirus sell-off. We also added Bosideng, a down jacket brand in China, which we believe should benefit in the long run to increased Chinese consumption. Earlier in the quarter, we took profits in a handful of corporates, including the Singaporean dollar-denominated bonds of Olam International, the U.S. dollar-denominated bonds of Cikarang Listrindo, and the convertible bonds of iQiyi.
Given the multitudes of unknowns, we are back-solving into market expectations based on current security prices. Out of credit, currency, and interest rates, we expect the most upside from credit, followed up interest rates, with currencies potentially having the most negative skew. With Asia high yield credit spreads hovering around 1,000 basis points (10.0%) which were all time wides experienced during the global financial crisis (GFC), we believe that that current prices are more than compensating active investors who can lock in current yields and avoid defaults. The forced selling of these bonds due to margin calls have also subsided as price moves are no longer as violent as during the “Dash for cash” stage of the crisis. With the epicenter of the crisis having moved from China to the rest of the world, we expect Chinese credits, especially of issuers in domestically driven sectors like property to be amongst the first to recover as they trade at a substantial discount to intrinsic value.
We see interest rates for most Asian countries having more room to fall as central banks continue to cut rates to stimulate their local economies. We expect this to not only be true for the developed economies of north Asia, but even for the emerging economies of India and Indonesia as the most worrisome negative spillover of low rates stoking inflation remains a low probability given the sudden stop of economic activity. As such, we see falling rates as also providing a positive tailwind for Asia local currency bonds. Lastly, we are most concerned about currencies as it is most difficult to determine their intrinsic value. Most Asian currencies have not depreciated to the trough levels of the GFC, although the velocity of the depreciation has exceeded that of the GFC. We are especially concerned about the emerging economies of India and Indonesia as their relatively large populations and underdeveloped health infrastructure make these economies most vulnerable.
We expect the portfolio›s mix of high quality bonds, in U.S. dollar and local currency, will cushion further downside, and preserve our ability to generate returns when we emerge from the current market environment. We know that volatility goes parabolic during times of stress, when correlations converge to 1. With the “dash for cash” having subsided, at least for now, we are seeing correlations moving in the right direction.
Rolling 12 Month Returns for the period ended 31 March 2020
|Matthews Asia Total Return Bond Fund
I (Acc) (USD)
50% Markit iBoxx Asian Local Bond Index, 50% J.P. Morgan Asia Credit Index (USD)
The value of an investment in the Fund can go down as well as up and possible loss of principal is a risk of investing. Investments in international and emerging market securities may involve risks such as social and political instability, market illiquidity, exchange-rate fluctuations, a high level of volatility and limited regulation. Fixed income investments are subject to additional risks, including, but not limited to, interest rate, credit and inflation risks. The Fund may invest in the following: derivatives which can be volatile and affect Fund performance; high yield bonds (junk bonds) which can subject the Fund to substantial risk of loss; and structured investments which can change the risk or return, or replicate the risk or return of an underlying asset. The Fund invests in holdings denominated in foreign currencies, and is exposed to the risk that the value of the foreign currency will increase or decrease. These and other risks associated with investing in the Fund can be found in the Prospectus.
Performance figures discussed in the Fund Manager Commentary above reflect that of the Institutional Accumulation Class Shares and has been calculated in USD. Performance details provided for the Fund are based on a NAV-to-NAV basis, with any dividends reinvested, and are net of management fees and other expenses. Past performance information is not indicative of future performance. Investors may not get back the full amount invested.
The information contained herein has been derived from sources believed to be reliable and accurate at the time of compilation, but no representation or warranty (express or implied) is made as to the accuracy or completeness of any of this information. Matthews International Capital Management, LLC (“Matthews Asia”) and its affiliates do not accept any liability for losses either direct or consequential caused by the use of this information.
Information contained herein is sourced from Matthews Asia unless otherwise stated. The views and opinions in this commentary were as of the report date, subject to change and may not reflect the writer’s current views. They are not guarantees of performance or investment results and should not be taken as investment advice. Investment decisions reflect a variety of factors, and the managers reserve the right to change their views about individual stocks, sectors, and the markets at any time. As a result, the views expressed should not be relied upon as a forecast of the Fund’s future investment intent. It should not be assumed that any investment will be profitable or will equal the performance of any securities or any sectors mentioned herein. The information does not constitute a recommendation to buy or sell any securities mentioned.
Investors should not invest in the Fund solely based on the information in this material alone. Please refer to the Prospectus for further details of the risk factors.
Sources: Brown Brothers Harriman (Luxembourg) S.C.A, Matthews Asia, FactSet Research Systems, Bloomberg