Podcast Summary: "Midyear Credit Outlook: An Odd Disconnect in Asia"

Podcast Information:

• Title: Thoughts on the Market
• Host/Author: Morgan Stanley
• Description: Short, thoughtful, and regular takes on recent events in the markets from a variety of perspectives and voices within Morgan Stanley.
• Episode: Midyear Credit Outlook: An Odd Disconnect in Asia
• Release Date: June 20, 2025

Introduction In the June 20, 2025 episode of "Thoughts on the Market", hosted by Morgan Stanley, Andrew Sheets, Head of Corporate Credit Research, and Calvin Pang, Head of Asia Credit Strategy, delve into the intricacies of the Asian credit markets. This episode marks the conclusion of their global tour of credit markets, offering listeners a comprehensive analysis of the current economic landscape in Asia, credit spread dynamics, and emerging opportunities within the region.

Economic Overview of Asia The discussion opens with Calvin Pang providing a high-level economic overview of Asia. He highlights that while recent talks and potential deals may offer some relief to the region's growth prospects, the impact is expected to be modest. Pang states:

"We do think that tariff uncertainty will linger here and it will keep growth sort of low here. Especially if we do think that capex of the region will be weaker due to tariff uncertainty."
(00:37)

Despite these challenges, factors such as a weaker U.S. dollar and ongoing monetary easing are anticipated to mitigate some of the growth drag. However, the overall outlook remains cautious, with an expected decline of 90 basis points in real GDP growth compared to the previous year.

Credit Spreads in Asia Transitioning to credit spreads, Andrew Sheets observes an apparent contradiction in the Asian credit market: despite economic headwinds, credit spreads remain exceptionally tight. Pang elaborates:

"No, they're actually really low. They're probably at the lowest since we start having a data in 2013, so definitely like a 12 to 13 year low of the range."
(01:29)

This unusual scenario raises questions about the underlying factors supporting such tight spreads amidst growth uncertainties.

Normalization of Asia Credit Technicals Calvin Pang attributes the tight credit spreads to strong technical factors, particularly negative net supply dynamics in Asia credit over the past few years, driven largely by China's credit market. He explains:

"The last two, three years is offset by this negative net supply. So you put these two together, we have this very strong technicals that support very tight spread."
(01:54)

Looking ahead, Pang introduces Morgan Stanley's framework for the Normalization of Asia Credit Technicals, outlining four stages of normalization. The current phase, he notes, is Stage Two, indicating that:

"We still have a bit of room to see some further normalization, especially if we don't get rate cuts."
(03:14)

He anticipates that eventual rate cuts, though delayed, will catalyze the normalization process, making credit spreads more reflective of the underlying economic conditions.

Borrowing in Local Currencies vs. USD Addressing the cost of borrowing, Sheets inquires about the attractiveness of local currency borrowing in Asia compared to U.S. dollar financing. Pang responds by highlighting the rise of foreign issuers in local currency markets, particularly referencing the Dim Sum bond market:

"We are going to see more foreign issuers in local currency market."
(04:08)

He further explains the benefits for global issuers with natural renminbi needs, emphasizing the competitive yields and reduced hedging requirements.

Dim Sum Bonds: An Overview In a light-hearted moment, Andrew Sheets asks Pang to clarify what a Dim Sum bond is. Pang defines it succinctly:

"Dim sum bond is basically a bond denominated in CNH. So CNH is an offshore Chinese renminbi sort of proxy."
(04:27)

He elaborates on the market's potential, noting the increasing demand from multinationals and the progress in renminbi internationalization, which could position the Dim Sum market as a more globally integrated sector.

China Property Sector Shifting focus to the China property sector, Pang provides a sobering update on its credit challenges:

"It's been four plus years since the first default started and we went through like 44 China property defaults, close to about 127 billion of total dollar bonds that defaulted."
(06:03)

He underscores that while the default cycle may be nearing its end, recovery remains elusive. Many property developers continue to struggle with restructuring, and the overall sector's return to stability is contingent on broader economic improvements and increased confidence among homebuyers.

Market Disconnects and Investment Opportunities Reflecting on the initial paradox of tight credit spreads amidst economic headwinds, Pang advises investors to leverage these disconnects by prioritizing high-quality credits. He suggests strategies such as:

"Whether it's switching out Asia high yield into Asia investment grade, whether it's switching out of BBB credit into single A credit, we think, you know, investors don't lose a lot of spread by doing that but they manage to pick out a higher quality credit at the same time."
(07:23)

Additionally, he highlights the significant exposure to tariff risks within Asia, recommending instruments like the Itrax Asia ex Japan CDS Index as effective tools for investors seeking to hedge or gain exposure to these uncertainties.

Conclusion In wrapping up the episode, Andrew Sheets and Calvin Pang provide a nuanced perspective on the Asian credit markets. While acknowledging the region's economic vulnerabilities, especially related to tariffs and the property sector, they also identify unique opportunities arising from current market dislocations. The discussion emphasizes the importance of strategic investment choices and highlights the potential for normalization in credit spreads as monetary policies evolve.

Notable Quotes:

• "We do think that tariff uncertainty will linger here and it will keep growth sort of low here." – Calvin Pang (00:37)
• "They're probably at the lowest since we start having data in 2013." – Calvin Pang (01:29)
• "We think the Itrax Asia ex Japan CDS index could be a good way to get exposure to tariff uncertainty." – Calvin Pang (07:23)

Final Thoughts This episode of "Thoughts on the Market" offers valuable insights into the complexities of the Asian credit landscape, balancing caution with opportunities. Whether you're an investor looking to navigate tight credit spreads or seeking exposure to emerging markets dynamics, the discussion provides a thorough understanding of the current state and future outlook of Asia's credit markets.

For more insights and analyses, tune into the latest episodes of "Thoughts on the Market" by Morgan Stanley.