Wednesday, August 10, 2011

Malaysia Fixed Income Market Review, 31 July - 6 August 2011

Fixed Income
Malaysian Government Securities (MGS) momentum continued to strengthen further to the highest weekly volume year-to-date, driven by safe-haven flows. Despite optimism of a resolution to US government debt crisis, unfavourable US data released during the week renewed growth worries for the US economy and investors refocused on the sovereign debt problems in Europe. Strong buying pushed MGS yields down by 3-14 basis points (bps) WoW. The 3-, 5-, 7- and 10-year benchmarks closed at 3.18%, 3.39%, 3.60% and 3.72% respectively on Friday.

On local economic front, exports in June 2011 grew 8.6% year-on-year (YoY) from 5.4% in May 2011 and was better than the forecast 5.8% growth. The advance in exports was mainly attributed to strong demand for commodities from Asian countries. At the same time, imports advanced by 6.3% YoY (May 2011: 5.4%) compared with consensus forecast of 2.2%. As a result, Malaysia’s trade surplus for June 2011 narrowed to RM7.6 billion from RM8.5 billion in May 2011.

In tandem with MGS market momentum, the Private Debt Securities (PDS) market also strengthened with majority of the trades coming from Government-Guaranteed (GG)/AAA and AA segments. Focus remained on the Government-related as well as banking and power papers.

Fixed Income Outlook
Outlook for 2H2011 is challenging amid multiple concerns on the external fronts, namely the signs of faltering US economic recovery, potential fallout from the Eurozone debt crisis and the downside risks from aggressive monetary policy tightening in large emerging economies. However, on local macroeconomics, the latest data released on June export growth beat market expectation and hence, we continue to expect the growth momentum for domestic economy to remain sustainable driven not only by the strong commodity exports, but also the private investment and domestic consumption on the back of gradual implementation of the Economic Transformation Programme (ETP) and low unemployment rate of 3%.

Given the above, emerging market bonds could benefit from the global headwinds, explaining the surge in foreign holdings of government bonds in Malaysia and elsewhere in the region since 2009 as they search for yield pickup opportunities. However, the record high holding by the offshore investors do present risks should the reverse occurs. In the short run, MGS yield curve should continue to flatten as market prices in further rate hike, pushing short-end yields higher while long-end continues to be supported given the constant demand from pension funds and insurance portfolios. Having said that, yield curve should steepen along the long-end of the curve once Bank Negara Malaysia (BNM) is done with interest rate normalization in the medium-term. Nonetheless, we reckon significant steepening is unlikely based on the market flows stated above.

On interest rate stance, we reiterate our view that BNM will likely resume overnight policy rate (OPR) increase by another 25-50bps in 2H11 with timing subject to the central bank’s assessment on evolving economic conditions and to the extent that the growth momentum is sustained.

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

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

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