Treasuries threat looms as taper tantrum memories linger in Asia

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Bangko Sentral ng Pilipinas
Central banks like the Bangko Sentral ng Pilipinas are monitoring changing financial conditions in order to calibrate their own response.

HONG KONG/MUMBAI — When 10-year Treasury yields jumped to three percent back in 2013 after then Federal Reserve Chairman Ben Bernanke signaled an end to quantitative easing, Asian bonds and currencies were clobbered in an episode dubbed the “taper tantrum.”

This time around, Asia’s central bankers have been able to digest the march toward three percent bolstered by healthy economic growth rates and replenished international reserves.

But for countries in the region reliant on imported capital, the risk remains that higher US interest rates will spur outflows, weaken currencies and force local central banks to follow the Fed.

With US rates set to go higher, how Asia handles the end of easy money will come down to how rapidly bond yields respond.

“It’s all about whether it is gradual and orderly,” David Fernandez, chief Asia-Pacific economist at Barclays Plc, told Bloomberg Television.

“If we are talking about a very abrupt move towards 3.25% or higher, then that is a situation where so much of the flows into these markets has traditionally had a difficult time.”

And so, investors in Asia were expected to be parsing Fed Chairman Jerome Powell’s testimony to US lawmakers on Feb. 27 for clues on the pace of his tightening plans.

It’s no coincidence that Asia’s three worst-performing currencies this year stem from India, Indonesia and the Philippines.

Reliance on imported capital makes them vulnerable to investment flows back to developed markets as Treasury yields rise.

For most of Asia, the economic backdrop is a good one.

Inflation remains subdued, exports have rebounded on the back of solid demand from advanced economies like the US and Germany and the region’s growth is the fastest in the world.

Perhaps the biggest difference between 2013 and today is that the smallest and most vulnerable economies have been able to fatten their foreign currency reserves.

And even despite uncertainty in markets, the Institute of International Finance projects $1.3 trillion in non-resident capital flows to emerging markets in 2018, up from $1.2 trillion in 2017.

Still, conditions can quickly change.

If US wages and inflation show signs of breaking out, yields could go markedly higher.

“A faster pace of Fed normalization presents the most significant headwinds to regional capital markets,” said Stephen Innes, head of Asia-Pacific trading at Oanda Corp. in Singapore. — Bloomberg