Growth in the emerging East Asia local currency (LCY) bond market decelerated to 2% in the second quarter of 2023 from 2.2% in the preceding quarter, reflecting a relatively high volume of maturities and moderated issuance of government bonds. The increase in treasury and other government bonds eased to 2.3% quarter-on-quarter during April-June from the previous three months as many regional governments had previously frontloaded their bond issuance in the preceding quarter to support economic recovery or revised borrowing plans.

According to the latest issue of Asia Bond Monitor published by the Asian Development Bank on September 11, the 0.5% decline in Indonesia’s LCY market was largely driven by lower government bond issuance as the country reduced its borrowing plan for 2023 on the back of the expected high revenue collection. Vietnam’s bond market also witnessed a contraction of 4.55% quarter-on-quarter underpinned by a decline in corporate bonds as corporates remained wary of issuing bonds amid several regulatory changes. Overall, the growth in the region’s corporate bond market eased to 1.4% in the second quarter of 2023 from 1.6% in the first quarter due to a sizeable amount of maturities in nearly all markets.

At the end of June, LCY bonds outstanding in emerging East Asia amounted to US$23.1 trillion, up 7.9% from a year earlier. China remained the largest LCY bond market in the region, with outstanding volume of US$18.3 trillion at the end of June, representing a market share of 79.2%. The amount was also equivalent to 107.4% of the country’s GDP. South Korea was the second largest LCY bond market with a size of US$2.3 trillion, or 10.1% of the regional total and 156.4% of its GDP.

Meanwhile, total LCY bonds outstanding in Asean markets reached US$2.1 trillion at the end of June, representing a market share of 9.1%, which was slightly below the 9.2% in the first quarter of the year.

Intra-regional bond issuance in emerging East Asia rose to US$13 billion in the second quarter of 2023 from US$11.1 billion in the previous quarter. The increase was mainly driven by Hong Kong, whose bond offering surged 33.1% quarter-on-quarter, thus offsetting the decline in South Korea, Malaysia and Laos. China resumed its intra-regional bond issuance during the quarter with US$100 million of issuance via a single-tranche bond from CMB International. Hong Kong was the region’s largest issuer of intra-regional bonds during the quarter with a total issuance volume of US$11.8 billion, accounting for 90.5% of the regional total.

Inflation impact

ADB says elevated inflation in advanced economies led to net portfolio inflows of US$18.5 billion in the region’s bond markets from April to July 2023. Net inflows of US$7.1 billion were recorded in June, following consecutive net inflows recorded in April (US$1.7 billion) and May (US$10.6 billion). Softening inflation in most emerging East Asian markets relative to the persistent elevated inflation in advanced economies partly contributed to the net inflows. The inflows were also influenced by a pause in tightening by the Federal Reserve in June.

South Korea recorded the largest net bond inflows in the region in the second quarter of 2023 at US$13.8 billion, followed by Malaysia with US$2.2 billion. Asean markets posted aggregate net inflows of US$2.4 billion in June, following net inflows of US$1.7 billion in May and net outflows of US$400 million in April. In addition to Malaysia, Indonesia also saw a net inflow of US$1.9 billion with both markets attributing it to relatively attractive yields compared with the US treasuries and easing inflation. In contrast, Thailand recorded net outflows of US$200 million due to political uncertainties following the general election in May. The Philippines also posted net marginal outflows of US$40 million on relatively elevated inflation compared with the other Asean economies.

As ADB points out, governments and central banks in emerging East Asia need to stay vigilant to guard against potential financial risk associated with higher interest rates. Higher borrowing costs have contributed to debt stress and bond defaults in some Asian markets over the past few months. It says softening inflation in the past several months has allowed most central banks in the region to hold off on further interest rate hikes, and some have started lowering rates to boost economic growth. Still, elevated price pressures, a solid job market, and robust economic performance in the US could lead to further interest rate increases by the Federal Reserve.

The recent shift away from interest rate hikes, along with sound economic fundamentals, helped support a slight improvement in financial conditions in most emerging East Asia markets between June 1 and August 31, according to ADB. Excluding China, positive investment sentiment in regional markets supported a narrowing of risk premiums, a rally in equity markets, and net foreign portfolio inflows in bond markets. A dimmed economic outlook in China, meanwhile, weighed on domestic financial markets.

“Asia’s banking sector showed resilience during the recent banking turmoil in the US and Europe, but we’ve seen vulnerabilities and defaults among both public and private borrowers since last year,” says ADB chief economist Albert Park. “Higher borrowing costs pose a challenge especially for borrowers with weak governance and balance sheets.”

On the other hand, a faster-than-expected decline in inflation in advanced economies, combined with a cooling in the job market and/or lessened financial stability and growth concerns, might lead to less hawkish monetary stances, ADB explains.

On sustainable bonds, the volume in Asean plus China, Japan and South Korea (Asean+3) in the second quarter expanded by 5.1% from the previous quarter to US$694.4 billion, accounting for 19.1% of global sustainable bonds outstanding. Asean+3 remains the world’s second-largest regional sustainable bond market after the European Union, although the segment only accounts for 1.9% of the group’s overall bond market.