Asia Credit Monthly:Air pocket

Investors across asset classes couldn’t have asked for a better start to theyear. Almost all the consensus views have played out, but at a really fast pace,hence it is not surprising that we are hitting an air pocket. We entered 2018with a constructive view on credit spreads. However, the rally YTD has beenstronger than our expectation. Markit index has tightened around 12bp inJanuary versus our full year forecast of 10bp. While we are revisiting ourforecasts and have been selectively trimming down our Buy recommendations,we generally remain positive and will be buyers of selected names on anymeaningful weakness. We don’t foresee the ongoing soft patch to last verylong.

    As detailed in our Outlook report, a sanguine macro environment is supportiveof spreads, even with gradually rising UST yields, especially if equities are alsoheading higher. Though S&P 500 has corrected 1.8% from the highs, it’s stillup 5.6% for the year. 82% of the 169 US companies that have reported 1Qresults have beaten EPS estimates. Our economics team believes that 3.5% isperhaps the magic mark for 10yr UST where the correlation between higherrates and higher equities breaks down. The pace of rise in rates will obviouslyalso matter. A quick rise as witnessed recently might hurt confidence in thenear term.

    Fundamentally, default rates should stay low and the upcoming results seasonshould be testament to our thesis of balance sheet deleveraging. Technically,supply could take a bit of a breather with the upcoming Chinese New Yearholidays and then the earnings blackout. Fund inflows could also continue witha positive backdrop for EM assets amidst weakening USD and highercommodities. Key risks remain the same in our view