A fresh spike in US yields is stretching the gap with parts of emerging Asia to extreme levels. Fueled by strong US economic data and soft demand at Treasury auctions, the 10-year Treasury yield leapt 16 basis points to 5.11% on Wednesday, the highest since 2007.
Stephen Chiu, Bloomberg Intelligence's chief emerging markets FX strategist, said, "Longer-dated EM Asia bonds are particularly at risk from higher Treasury yields, especially low-yielders such as South Korea and Thailand." He added that rising US yields could "either spur foreign outflows, or reduce net foreign inflows" into the region's bonds.
Malaysia's 10-year bonds now trade at the deepest discount to Treasuries since 2007, with the gap widening to 122 basis points this week. Thailand's 10-year spread has compressed to 290 basis points, close to its record low. Indonesia's differential narrowed to 196 basis points, also near an all-time low. Earlier this month, the China to US 10-year yield gap widened to the largest on record.
On Thursday, yields in Malaysia and Thailand rose a milder 5 basis points, sidestepping the harsher Treasuries selloff thanks to steady domestic inflation and sturdier local currencies.
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A wider gap with Treasuries raises the odds that overseas money exits EM Asia bonds or slows coming in. That can lean on local currencies. Central banks in the region may then keep policy rates elevated to support exchange rates, which pushes up borrowing costs.
Homin Lee of Lombard Odier Singapore, who serves as a senior macro strategist, observed, "The relentless uptrend in US yields does provide an uncomfortable backdrop for bond investors." "But it also revealed the resilience of USD and local debt markets in Asia, with the exception of more vulnerable Indonesia and Philippines."
Put it together and you have a setup that can sap demand for some EM Asia bonds, pressure certain currencies, and keep regional rates higher for longer. If you have exposure to these markets, expect the ripple effects to show up in currency moves and financing costs.
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