Tuesday, June 21, 2011

Malaysia Fixed Income Market Review, 12-18 June 2011

Fixed Income
Continued strong demand from both local and offshore players on long dated Malaysian Government Securities (MGS) caused the benchmark MGS yield curve to flatten further. Consequently, the reopening of the 10-year MGS on Tuesday drew a favorable bid-to-cover ratio of 2.34 times at an average yield of 3.97%. On a WoW basis, the 5- and 10-year benchmark MGS yields closed lower by 3 basis points (bps) and 1bp respectively, to settle at 3.49% and 3.92%. Meanwhile, profit-taking was seen in the 3- and 7-year benchmarks, sending the yields up by 3bps and 1bp accordingly to close at 3.20% and 3.71%.

For local private debt securities (PDS) market, the majority of the trades done during the week were from Government-Guaranteed (GG)/AAA segment, followed by AA segment. The GG/AAA segment was largely dominated by a new GG issuance totaling RM5.8 billion. In the AA segment, buying interest was seen on power bonds, while within the A segment, buying interests were seen on banking bonds. For primary issuance during the week, the total issuance of over RM7.0 billion was well-received with investors’ interest especially skewed towards the longer-tenures.

Fixed Income Outlook
On local macroeconomics, economic indicators in the US continued to chart weak numbers. Coupled with renewed concerns over Euro sovereign situation, US Treasuries continued to be well supported despite QE2 coming to an end. Locally, economic numbers are expectantly showing slowing momentum. Nonetheless, we expect the domestic economy to remain sustainable driven by private investment and domestic consumption.

On inflationary concerns, while Consumer Price Index (CPI) numbers have been climbing up, market is getting mixed signal from the news on subsidy rationalization. While further subsidy cut remains a swing factor to inflationary outlook, delay in raising petrol prices has renewed speculation of an earlier General Election. Should this be in the agenda, we reckon subsidy rationalization will be more gradual than expected, capping CPI numbers for the rest of the year.

On interest rate stance, following Bank Negara Malaysia (BNM)’s move to resume interest rate normalization by another 25bps, we expect BNM to continue to increase Overnight Policy Rate (OPR) by another 25 – 50bps in 2H11 with timing subject to the central bank’s assessment of growth and inflation outlook. Nonetheless, short-end yields do not seem to have priced in further rate hikes. This could be due to strong foreign inflows to the front-end of the curve.

On supply and demand dynamics, industry sources have it that more issuance will come on stream in the 2H11 based on the current pipelines. This should help close the existing supply demand gap while ample liquidity and continual demand from pension and insurance funds will continue to lend support to the local market.

Meanwhile, momentum of foreign inflows into Malaysian government bonds and short-term bills remain unabated. Yield differentials between US Treasuries, positive currency outlook as well as manageable inflation remain positive for ringgit fixed income assets. Having said that, the record high holding by the offshore investors do present risks should the reverse occurs.

For corporate bond market, we maintain our positive outlook on credit fundamentals in general. Despite more bond issuance in May, the actual offers to the open market were insignificant as some of the new supplies were privately placed. We expect the current valuation especially the popular high-grade names to remain stretched due to insufficient supply with significant pent up demand for yields.

Fixed Income Strategy
We maintain our slight underweight duration call across all Fixed Income. In terms of asset allocation, focus remains on corporate bonds. We continue to like banking sector supported by the overall well capitalized domestic banking system with healthy asset quality and sustainable loan growth.

We aim to participate in new issuance for further diversification and yield enhancement.

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

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