Tuesday, April 5, 2011

Malaysia Fixed Income Market Review, 27 March - 2 April 2011

Fixed Income
Malaysian Government Securities (MGS) market sentiment was bearish during the week under review, amidst renewed inflationary concerns and impending tightening measures. Apart from that, the rise in yields was also on concern of more long-term
MGS/Government Investment Issue (GII) supply scheduled in 2Q11. On a week-on-week basis, 5- and 10-year MGS climbed 5 basis points (bps) higher to 3.65% and 4.11% respectively, whilst 3-year MGS rose 7bps to 3.47% and 7-year MGS jumped 9bps higher to 3.84%.

Meanwhile, the RM4.0 billion auction of the new 3.5-year GII drew weak demand with a bid-to-offer ratio of 1.43x (average yield of 3.505%), compared with the year to-date average of 2.29x, and the most recent 3-year GII auction in September 2010, which drew 2.5x bid-to-offer ratio.

The broader money supply, M3, slowed down to 7.9% year-on-year (YoY) in February, after rebounding strongly by 8.8% in January, pointing to slower but resilient economic growth. Similarly, loan growth eased to 12.2% YoY in February (13.1% in January), mainly due to a weaker growth in corporate as well as household loans during the month.

For local private debt securities (PDS) market, trading interest remains focused on AAA-rated/ Government-guaranteed (GG) papers, followed by AA-rated papers.

Fixed Income Outlook
On local macroeconomics, we have started to see some slowdown in economy but it should remain sustainable as domestic consumption and private investment are still expected to drive our economic growth. Meanwhile, inflationary fears for most emerging countries are seen tapering off. However, for Malaysia, there were renewed inflationary concerns with the latest Consumer Price Index (CPI) number surprising consensus and after indication from central bank’s 2011 Annual Report being wary of greater inflationary pressure in the medium term. We expect continual inflationary concerns on the back of further subsidy rationalization by the government.

Following the last hawkish Monetary Policy Committee (MPC) statement and coupled with the higher-than-expected CPI data for February, many economists view the MPC statement as a signal that central bank may resume rate normalization in the next upcoming MPC meeting in May. We reiterate our view that Bank Negara Malaysia (BNM) will at most increase Overnight Policy Rate (OPR) by another 50-75bps from the current 2.75% this year, with likelihood of bringing the rate increase in 2Q11.

On supply and demand dynamics, market has generally expected a larger issuance size for government bonds for 2011. We think the unanticipated influx of GG papers and issuance size of the Private Placement for government bonds may present new supply pressure and influence direction of the bond yields. Nonetheless, ample liquidity in the market may continue to lend support to the new supplies.

Meanwhile, foreign holdings in MGS and short-term Bills remained high. This offers some confidence to the market that current sentiment remains supportive of ringgit assets. However, suspicion over potential reversal of capital flows are likely to constantly cloud the market sentiment. On the above backdrop, we expect local MGS market to remain volatile.

For corporate bond market however, we maintain our view that credit market will be supported in conjunction with economy recovery. We expect companies to continue to report improvement in balance sheets and cash flow positions going forward. While we expect to see more bond offers coming on stream in 2011 on the back of more infrastructure projects announcement by the government, the current supply of new issuance is showing otherwise. Unless and until we see influx of corporate bond issuance that warrant supply concerns, we expect the current demand for credit will be sufficient to support the new issuance due to pent up demand. Last but not least, rising risk appetite in tandem with positive credit outlook should continue to encourage investors to move down the credit curve in search for value.

Fixed Income Strategy
Overweight corporate bonds with focus on “AA” rated bonds. Look to participate in new issuance for yield pick-up

Source for MGS levels: Bond Pricing Agency
Source: ING Funds Berhad

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