As the adage goes “when stocks go up, bonds go down”, the rallying stock market coupled with the era of the retail investor leaves bonds behind as the unloved asset class. With global interest rates near-zero, can there still be any positive spin to bonds?
Having studied the market for a good half of a decade, I am still happy to recommend Singdollar-denominated (SGD) bonds, hopefully short of confirmation bias.
Sleeping well at night
Aside from providing a partial hedge to equities, SGD corporate bonds have proven to provide steady income with contained volatility. During the heights of the market drawdown in March 2020 and April 2020, SGD bond prices held mostly firm. The maximum drawdown for the SGD corporate bond market was on average a mere 3.6% while that of riskier issuers (which we rate lower on our Issuer Profile Rating) was 5.0%. Downside looked very muted in comparison to high-yield Asia US dollar bonds, which corrected by more than 15%, and the Straits Times Index (STI), which fell over 30%. Although thinning liquidity during the crisis that resulted in fewer trades likely “contributed” to price stability, given that Singapore is a wealth management hub, many high net worth individuals are expected to stay invested and hold bonds till maturity.
While defaults were inevitable in 2020 and mostly impacted bondholders who collectively held $161.8 million of bonds issued by Century Sunshine Group Holdings and Pacific International Lines, this forms only a small proportion of over $100 billion bonds outstanding in the market, excluding government bonds and bonds issued by statutory boards.
Boring is exciting
Half in jest, I lamented to my credit research colleagues that it is easier to make money shorting Singapore-listed stocks. Not because the “shortists” here have not been “GameStopped”, but because a good number of companies listed on the local bourse simply have not grown much, or have seen their profits and ROE decline over time — think telcos, property developers and companies in traditional industries such as print or postal.
As a former equity research analyst, I think the performance of Singapore companies can be best summed up by the STI, which delivered a mere 2.3% total returns per annum over the last 10 years.
Comparatively, bonds of the same bluechip companies have made good on repayment, which in the past delivered yields around 3–5%. Although the credit profiles of the average Singapore-listed company have inevitably weakened, we remain confident that the vast majority will continue to repay. Without too much shake-up in the business, as long as cash flows remain healthy or asset coverage remains strong, a slow-growth company can still be appealing to bond investors.
Adapting to the new normal
What kind of yields would appeal to investors though? Back in early 2010s, most analysts I spoke to lamented the poor yields offered by Cheung Kong’s 5.125% perpetuals and Genting Singapore’s 5.125% perpetuals relative to other higher yielding bonds. Moreover, no one wanted to risk getting stuck perpetually with a fixed coupon bond when interest rates were expected to rise.
In 2016, Cheung Kong proceeded to call its perpetual, putting paid to the fear as the perpetual was redeemed. By 2017, sentiments began to shift as several investors we spoke to were hoping against all odds that Genting Singapore would refrain from exercising the call, which would allow holders to continue receiving the income stream from the perpetual.
The compression in yield expectations continues. Fast forward to 2020, Ascendas REIT priced its green perpetual at 3.0% in September 2020, which has been chased up to a yield-to-call of less than 2.5% in the secondary market today.
Perhaps, investors ought to be thankful that both nominal and real yields in SGD are still positive. Singapore Exchange priced a threeyear EUR convertible bond at a yield to maturity of negative 0.331% — unless the share price surpasses the conversion price, investors holding the bond to maturity will lose money (in EUR). In our recently published Singapore Credit Outlook 2021, we have revised the definition of “high yield” lower to 3.5% (2020: 4.5%) to reflect the new normal of subdued interest rates.
Positioning in the new world
We believe that bonds have a place in the portfolio although the low-yield environment has made the search more difficult for the “impossible trinity” of high yield, low risk and short duration. That said, the “impossible trinity” can be best balanced through a diversified portfolio of bonds that we presented through our model portfolio, which we constructed in early January and published in our Credit Outlook 2021, with an update in our February Credit Monthly. This incorporates our views of the market as well as our bottom-up approach in bond selection.
The simple average issuer profile rating of our model portfolio is 4.2, which reflects our view that we see better value in “crossover” names. We have generally shunned issuers with the strongest Issuer Profile ratings given that their spreads have compressed significantly relative to their higher yielding peers. We positioned more in the belly (4–7Y) of the curve, balancing between the need for yield and bearing in mind the risk that interest rates may rise. We favour bonds from property developers (e.g. GUOLSP 3.4% ‘25s, METRO 4.3% ‘24s and FPLSP 4.98% PERP) and financial institutions (UBS 5.875% PERP, SOCGEN 6.125% PERP, CMZB 4.875% ‘27s) given their wider spreads and recovering economic outlook. With receding risks that the call option on perpetuals will not be exercised by issuers, we included seven perpetuals to enhance the yield.
In constructing the model portfolio, we started with $5 million cash in January and allocated the investment amount to 19 bonds, with leftover amounts remaining as cash. In our selection, we included only SGD issues with outstanding amounts of at least $100 million. Prices are based on Bloomberg Valuation, which is an accessible pricing source on Bloomberg. As of February, the portfolio has grown around 1% month-on-month to $5.05 million.
We intend to continue reviewing this portfolio going forward. Hopefully, this portfolio will grow and readers like you will grow along with us. Stay tuned.
