The Russia-Ukraine crisis and its implications for emerging Asia and China
Escalating geopolitical tensions over the past weeks saw the United States warn that Russian military action against Ukraine posed an immediate threat. We examine how a conflict might affect the broader emerging-Asia universe and China.
Our assessment in terms of market volatility and risk
In such a multidimensional subject, with sovereignty coming under threat, it’s challenging to develop a one-case-fits-all outcome, and any future market volatility and price action will likely reflect developments. In the event of a conflict, it could involve further escalation, leading to a breakdown in diplomatic deliberations, followed by military action. Coupled with this would be any subsequent response from Ukraine’s Western allies and reactive measures such as sanctions. The length and magnitude of these sanctions would depend on the severity of the escalation. Markets have been building in a geopolitical premium at this stage, with fundamentals taking a step back. But, so far, the situation has been either regionally or locally contained.
We naturally expect to see broad risk sentiment being compromised in the event of a conflict with safe-haven trading taking the lead. Initial uncertainty surrounding the severity and extent of the episode should trigger increased volatility. In our view, spillover will also be evident in the commodity complex feeding into oil and natural gas, as these are center stage.
A potential spillover affecting other parts of EM, especially Asia and China
When we assess such externalities that could shock individual markets beyond their domestic borders, we need to be mindful that any knock-on effects will ripple out globally. Such a shock has the potential to force synchronized monetary policy action and derail, at least temporarily, the current path toward normalization across developed and emerging markets (EM).
In the least-appealing scenario, broad risk sentiment will come under pressure until we see greater clarity on the severity of the situation. This will be most evident in the commodity channel that will, in turn, disproportionally affect importing nations. Oil, for example, is already carrying a US$5 to US$10 premium that reflects the uncertainty surrounding Ukraine-Russia tensions.
In regard to China, the meeting between Russian President Vladimir Putin and Chinese President Xi Jinping, which took place just before the opening ceremony of the Beijing 2022 Winter Olympics, reflects the importance of this relationship for both parties, particularly in economic terms.
From an energy perspective, we saw an enhanced relationship that will see Russia deliver an additional 200,000+ barrels of crude oil per day to China, plus a boost in Russian natural gas exports to the country.
Safe havens for fixed-income investors within EM
Initially, we expect to see little or no discrepancy across the EM complex in the event of a conflict, given the nature of the external shock; however, fundamentals will play a more prominent role once the dust settles. Indeed, in terms of resource producers, we expect to see the stronger, export-driven economies lead the way. At this stage, we need to be aware that some central banks across EM (primarily outside of Asia) have embarked on an aggressive tightening journey that’s well ahead of the U.S. Federal Reserve. These policy moves have been introduced to tame powerful inflationary dynamics that can extend even further on the back of continued upward pressure on energy prices. We believe this environment could reinforce the diversification benefits that select fixed-income assets within the EM-debt universe can offer.
China fixed income as a potential safe haven
In our view, China is an evident pick from an Asia-centric perspective given its already desynchronized business cycle (relative to other major economies). This reflects the People’s Bank of China’s (PBoC’s) supportive monetary policy stance as the country prepares for China’s 20th Party Congress, which is set for autumn 2022.
In the event of a conflict, there will likely be flight-to-safety trade in risk assets, including a sell-off in China’s U.S. dollar-denominated credit market. That said, the performance of local currency Chinese government bonds (CGBs) and policy bank bonds should be relatively stable (within the EM-debt universe), as Chinese sovereign bonds have performed well over the past few years when there have been instances of broad market volatility, such as the COVID-19-driven March 2020 market sell-off. In contrast to the United States and Europe, the PBoC is currently in easing mode, which will likely support the performance of CGBs, even within a more volatile market environment. As global investors are broadly underweight in China bonds, we believe that medium-term flows to the asset class will remain positive.
Investors also need to be aware of the potential impact on oil prices and inflation as a result of rising tensions between Russia and Ukraine. Indeed, over the past 18 to 24 months, onshore China bonds have performed relatively well in U.S. dollar terms on an unhedged basis in periods when U.S. inflation has been rising. This points to the asset class’s potential to be a hedge against rising inflation for global investors.
In summary, Chinese sovereign bonds have the potential to provide investors with relative stability and to act as a safe haven within the broader EM debt universe.
Important disclosures
A widespread health crisis such as a global pandemic could cause substantial market volatility, exchange-trading suspensions and closures, and affect portfolio performance. For example, the novel coronavirus disease (COVID-19) has resulted in significant disruptions to global business activity. The impact of a health crisis and other epidemics and pandemics that may arise in the future could affect the global economy in ways that cannot necessarily be foreseen at the present time. A health crisis may exacerbate other preexisting political, social, and economic risks. Any such impact could adversely affect the portfolio’s performance, resulting in losses to your investment.
Investing involves risks, including the potential loss of principal. Financial markets are volatile and can fluctuate significantly in response to company, industry, political, regulatory, market, or economic developments. These risks are magnified for investments made in emerging markets. Currency risk is the risk that fluctuations in exchange rates may adversely affect the value of a portfolio’s investments.
The information provided does not take into account the suitability, investment objectives, financial situation, or particular needs of any specific person. You should consider the suitability of any type of investment for your circumstances and, if necessary, seek professional advice.
This material is intended for the exclusive use of recipients in jurisdictions who are allowed to receive the material under their applicable law. The opinions expressed are those of the author(s) and are subject to change without notice. Our investment teams may hold different views and make different investment decisions. These opinions may not necessarily reflect the views of Manulife Investment Management or its affiliates. The information and/or analysis contained in this material has been compiled or arrived at from sources believed to be reliable, but Manulife Investment Management does not make any representation as to their accuracy, correctness, usefulness, or completeness and does not accept liability for any loss arising from the use of the information and/or analysis contained. The information in this material may contain projections or other forward-looking statements regarding future events, targets, management discipline, or other expectations, and is only current as of the date indicated. The information in this document, including statements concerning financial market trends, are based on current market conditions, which will fluctuate and may be superseded by subsequent market events or for other reasons. Manulife Investment Management disclaims any responsibility to update such information.
Neither Manulife Investment Management or its affiliates, nor any of their directors, officers or employees shall assume any liability or responsibility for any direct or indirect loss or damage or any other consequence of any person acting or not acting in reliance on the information contained here. All overviews and commentary are intended to be general in nature and for current interest. While helpful, these overviews are no substitute for professional tax, investment or legal advice. Clients should seek professional advice for their particular situation. Neither Manulife, Manulife Investment Management, nor any of their affiliates or representatives is providing tax, investment or legal advice. This material was prepared solely for informational purposes, does not constitute a recommendation, professional advice, an offer or an invitation by or on behalf of Manulife Investment Management to any person to buy or sell any security or adopt any investment strategy, and is no indication of trading intent in any fund or account managed by Manulife Investment Management. No investment strategy or risk management technique can guarantee returns or eliminate risk in any market environment. Diversification or asset allocation does not guarantee a profit or protect against the risk of loss in any market. Unless otherwise specified, all data is sourced from Manulife Investment Management. Past performance does not guarantee future results.
Manulife Investment Management
Manulife Investment Management is the global wealth and asset management segment of Manulife Financial Corporation. We draw on more than a century of financial stewardship to partner with clients across our institutional, retail, and retirement businesses globally. Our specialist approach to money management includes the highly differentiated strategies of our fixed-income, specialized equity, multi-asset solutions, and private markets teams—along with access to specialized, unaffiliated asset managers from around the world through our multimanager model.
This material has not been reviewed by, is not registered with any securities or other regulatory authority, and may, where appropriate, be distributed by the following Manulife entities in their respective jurisdictions. Additional information about Manulife Investment Management may be found at manulifeim.com/institutional.
Australia: Hancock Natural Resource Group Australasia Pty Limited., Manulife Investment Management (Hong Kong) Limited. Brazil: Hancock Asset Management Brasil Ltda. Canada: Manulife Investment Management Limited, Manulife Investment Management Distributors Inc., Manulife Investment Management (North America) Limited, Manulife Investment Management Private Markets (Canada) Corp. China: Manulife Overseas Investment Fund Management (Shanghai) Limited Company. European Economic Area Manulife Investment Management (Ireland) Ltd. which is authorised and regulated by the Central Bank of Ireland Hong Kong: Manulife Investment Management (Hong Kong) Limited. Indonesia: PT Manulife Aset Manajemen Indonesia. Japan: Manulife Investment Management (Japan) Limited. Malaysia: Manulife Investment Management (M) Berhad 200801033087 (834424-U) Philippines: Manulife Investment Management and Trust Corporation. Singapore: Manulife Investment Management (Singapore) Pte. Ltd. (Company Registration No. 200709952G) South Korea: Manulife Investment Management (Hong Kong) Limited. Switzerland: Manulife IM (Switzerland) LLC. Taiwan: Manulife Investment Management (Taiwan) Co. Ltd. United Kingdom: Manulife Investment Management (Europe) Ltd. which is authorised and regulated by the Financial Conduct Authority United States: John Hancock Investment Management LLC, Manulife Investment Management (US) LLC, Manulife Investment Management Private Markets (US) LLC and Hancock Natural Resource Group, Inc. Vietnam: Manulife Investment Fund Management (Vietnam) Company Limited.
Manulife, Manulife Investment Management, Stylized M Design, and Manulife Investment Management & Stylized M Design are trademarks of The Manufacturers Life Insurance Company and are used by it, and by its affiliates under license.
549470