Asia's regional currency bonds suffer amid flight to quality

By Andrew Wood in Hong Kong Published: January 16 2009 02:00 | Last updated: January 16 2009 02:00 The future of Asian domestic currency bond markets is in doubt after recent rapid growth was "stopped in its tracks" by the global financial crisis, and investors switched their preference to bonds in dollars, euros, yen and other main currencies, according to Greenwich Associates, the consultants. "This is a classic flight to quality on an historic scale," says Tim Sangston, a consultant with Greenwich Associates. "Institutions are shifting en masse from local currency bonds to Asian credit products denominated in G3 and G7 currencies." Trading in local currency bonds dropped by two thirds in 2008 after growing 135 per cent in 2007, according to Greenwich's latest annual Asian Fixed Income Study. Overall fixed-income trading in Asia, including derivatives, rose by a third to $2,300bn thanks to a surge in demand for bonds issued in favoured global currencies. Trading in cash bonds was up 15 per cent. Other data this week showed the best start to the new year for fresh Asian bond issues as credit spreads contracted, interest rates fell and liquidity recovered after a difficult few months following the collapse of Lehman Brothers. However, much of the $18.4bn of debt priced in the first two weeks of January, according to Dealogic, has been in dollars. For example, Kexim, the Export-Import Bank of Korea, raised $2bn this week with an oversubscribed five-year dollar-denominated bond and earlier the Philippines government borrowed $1.5bn over 10 years in its first issue for a year. Local currency bond markets have traditionally lagged behind Europe and North America in sophistication, size and depth. Regulators, governments and international institutions became much more interested in promoting a regional bond culture after the Asian financial crisis of 1997. Many borrowers had been bankrupted when local currencies devalued as the size of their dollar-denominated debts suddenly jumped. "The emergence of thriving local currency debt markets has been seen as an important new source of stability but the severity of the current financial crisis leaves the near-term fate of these markets in real doubt," Mr Sangston said. The Asian Development Bank warned in April that the US subprime mortgage crisis would slow the expansion of local currency bond markets. In November, it said growth was weaker than in 2007, but that issues had stood up well to the credit turmoil. Trading in interest rate derivatives also climbed among Asian institutions, more than doubling to $722bn. "Investors were actively looking to lock in hedges on the back of other investments," Mr Sangston said.