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7/24/2019 Market Insights June 2015 240615 - FINAL
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CIMB Preferred
MARKETINSIGHTS
M A L A Y S I ACIMB Bank Berhad
June 2015
7/24/2019 Market Insights June 2015 240615 - FINAL
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Contents
CIMB Bank Berhad Page 2May 2015
EDITORIAL
Effendy Shahul Hamid
Head, Group Marketing and Communications
CIMB Group
EDITORIAL COMMITTEE
Ken Kamal, Nurlia Binti Ismail, Lee Sui Sheng
PUBLISHED BY
Group Marketing and Communications
CIMB Investment Bank Berhad (18417-M)
Level 6 Menara SBB, 83 Jalan Medan Setia 1,
Plaza Damansara, Bukit Damansara,
50490 Kuala Lumpur, Malaysia
CONTENTS
3 Economic Outlook
China is fighting disinflation, something it willneed to eliminate to deal with excess capacityand debt. However, the stimulus required to do
so may need to be much larger than whatconsensus believes. In the event, the slowdownmay not follow a linear path and growth, in
particular, investment, may rebound for a fewquarters. That, in turn, will affect commodity
prices and could have significant implicationsfor the region. Malaysia and Indonesia are likelybeneficiaries.
7 Central Bank Watch
A round-up of key developments and newsarising from central banks around the world.
10 Fixed Income
There are several positives for the Indonesianbond market, with stable politics, a looser policystance and prudent fiscal spending. Indonesiamay be on the verge of returning to theinvestment-grade world. The IDR 10Y bondenjoys a near-600bp spread over the US 10Yand we think that is an attractive option.
13 Latest Highlights
The spectre of a Greek default continues toconcern investors, but how much would a Greekdefault really disrupt markets?
By Schroder Investment Management Limited
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Economic Outlook
CIMB Bank Berhad Page 3May 2015
China: Deviating from the script?
The received wisdom on the Chinese economyis that it is rebalancing - moving away frominvestment-led growth to being consumption-led. And, while it does this rebalancing, it isalso moving from a near-10% growth rate forseveral decades to a more sustainable rate ofsomewhere between 5% and 6%. Implicit inthis story is that the path from 10% to 5% willbe a linear one, with the economy growing just
a tad slower each year, for example, 7% thisyear, down from 7.4% last year and, then,perhaps 6.5% next year and so on.
That is the new normal and policy is workingtowards it. The investment boom, where theinvestment ratio reached an unprecedented50% of GDP, was driven by several policymeasures, such as keeping an undervaluedexchange rate and a real interest rate below itsmarket-clearing level. Furthermore, from thestart of reforms to around the late-1990s, in realterms, wages grew at well below GDP growth.
As such, household income growth also did notkeep pace with GDP growth and consumptionas a percentage of GDP declined from about50% of GDP to about 35% of GDP in the mid-2000s. Moreover, with the lack of social safetynets, the savings rate rose from 35% in 1980 toabout 50% by the mid-2000s.
In short, we had a high-savings and low-consumption economy, thereby supplying fundsor the ability to invest. The incentive to investwas created via low real rates and anundervalued currency. In short, China did 10%growth while increasing its investment ratio. All
that is now changing. In real terms, wagegrowth has been outstripping the growth rate ofGDP and social safety nets have also beenimproving, giving support to a possible declinein the national savings rate. In addition, in itslatest Article IV consultation, the IMF concludedthat the exchange rate was no longerundervalued. Progress is also being made oninterest rate liberalisation.
So far, so good or so it seems. The 10% growthrate came at a price. In particular, in the latteryears, especially after the 2008 global financialcrisis, there was a credit-fuelled investmentsurge that left the economy saddled with threemain problems: debt, bad loans and excess
capacity. Moreover, adding to these problems,the economy is facing disinflationary pressures.None of these problems is easy to resolve insuch an environment.
The real hurdle to reforms: Disinflation
In a situation where inflation is either very lowor falling, real wages tend to rise, thusdampening employment and, in turn, keeping
capacity utilisation rates low. Furthermore, withdisinflation, real debt levels rise or stayelevated and asset quality suffers. For theseproblems to be addressed, it is imperative thatChina gets rid of disinflation.
A more technical way to see this is to recognisethat there is now a negative output gap inChina, meaning that actual output is less thanpotential output. And this is despite a decline inthe potential growth rate as the economy triesto move to a more sustainable growth path.Thus, for inflation to return, China needs toclose the gap between potential and actualoutput and that essentially means an increasein demand.
The increase in demand could come via twosources: external or domestic. China could getlucky and global growth could pick up, therebyboosting its exports. Unfortunately, globalgrowth is currently showing a fair amount oflethargy and forecasts are being downgraded.The IMF has recently lowered its 2015 forecastfor the US economy to 2.5% from 3.1% and its2016 forecast to 3% from 3.1%. The OECD iseven more cautious, lowering its US growth
forecast from 3.1% to 2.1% for this year andfrom 3% to 2.8% for 2016. The OECD is fairlyunenthusiastic in its outlook, recognising thateven if the negative first quarter growth numberin the US is a blip, the outlook for investmentdemand and, hence, overall demand, is stillunsatisfactory.
The poor outlook for investments bringsanother problem because it is the import-intensive part of domestic demand. Forecaststhat expect the US economy to rebound largelyrest on rising income growth fuelling
consumption demand. For China and Asia, thatis not much consolation as their exports catermore to business investment. If the likes of
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Economic Outlook
CIMB Bank Berhad Page 4May 2015
OECD and IMF are correct, it looks unlikely thatChinas exports are going to show muchstrength anytime soon. That then leavesdomestic demand to close the output gap andbring back inflation so reforms can continue. Arise in domestic demand, in turn, depends onhow policy monetary and fiscal isconducted.
Using monetary policy
The authorities have been reasonably clear in
their response. Small doses of fiscal stimulus -measures dealing with the environment,shantytowns, etc. - have been ongoing for awhile but disinflation has persisted. In addition,the drop in oil prices exacerbated matters and,with producer prices headed for nearly threeyears of decline, the authorities concluded thatmonetary stimulus was needed - an economy-wide measure to deal with the economy-wideproblem of disinflation. Since then, reserverequirements have been cut two times by atotal of 150bp and interest rates three times bya total of 90bp.
The extent of stimulus needed will depend onhow effective these measures are in endingdisinflation. Our belief is that monetary policy isnot a particularly sharp instrument right nowand, therefore, to have any effect, the extent ofstimulus needs to be big, much more than thepiecemeal effort that consensus anticipatesfrom the PBOC.
A discussion of Chinese monetary policy istricky, especially as not only policy but also theentire policy framework is in flux. Until 1997,the PBOC largely used a quota system to
manage the size of credit and cash. Since then,it has moved toward controlling the growth ofmonetary aggregates using a variety ofinstruments. The monetary base is controlledthrough open market operations, the reserverequirement ratio, central bank lending andrediscounting. Credit is, then, managed throughboth price-related measures, such as interestrates, and administrative controls such as astipulated loan-deposit ratio and quotas. Macro-prudential measures are also used.
Furthermore, with China trying to increasingly
integrate with the global economy and, hence,being subject to changes in global liquidity, thePBOC has introduced liquidity management
tools, such as the standing lending facility(SLF) and short-term liquidity operations (SLO).
The longer-term goal is of course liberalisationand the increasing use of a price-basedmechanism, such as interest rates, and itappears that deposit rate liberalisation is highon the reform agenda. However, the monetarysystem is getting increasingly complex, withboth increased global integration and thedevelopment of shadow-banking institutions.The role of the bank and, hence, instrumentsthat motivate banks behaviour have limits totheir effectiveness. For our purposes in thisreport, we will discuss two of the instrumentsused thus far: the reserve requirement ratio(RRR) and the benchmark interest rate. Cuts inthe reserve requirement add to the monetarybase by boosting its net domestic assetcomponent. How much that increase translatesinto broad money then depends on whether alack of deposits (excess of reserves) was thebinding constraint on credit growth. With asystem loan-deposit ratio of 72.62% (versus theceiling of 75%), one could argue that RRR cutswill ease the growth of credit.
However, even as the RRR has been cut, creditgrowth by banks and aggregate financing havebeen decelerating, suggesting that the bindingconstraint may not be the supply of credit.Instead, most likely, it is credit risk, withconcerns over credit quality, that is holdingbanks back.
Rate cuts should, however, help boost creditgrowth. If the binding constraint on creditgrowth is indeed credit risk, then lower rates, byreducing debt service payments, should help.
However, the story does not end here. Insimple terms, the mechanism by which aneasing by the central bank affects the realeconomy has two components to it. After all,the central bank only controls base moneygrowth or its financial position with the bankingsystem. The first part of the transmissionmechanism is the extent to which the increasein base money makes it into the real economy.In other words, how much base money growthtranslates into broad money growth or, to keepit simpler, lets say, credit growth. This is the
money multiplier.
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Economic Outlook
CIMB Bank Berhad Page 5May 2015
The second part of the transmissionmechanism is how fast the money in the realeconomy turns around. In other words, what isthe velocity of money. The greater it is, themore transactions are conducted for a givenamount of money in the system.
If either the money multiplier or the velocity ofmoney is impaired, then so is the effectivenessof monetary policy. In Chinas case, as one cansee from the chart above, credit growth hasbeen decelerating, and as one can see fromthe chart below, the velocity of money has beensteadily declining. In short, monetary policy is arather blunt instrument. To be effective, theextent of stimulus needs to be large. At aminimum, policy stimulus is likely to be muchlarger than the piecemeal effort that consensusexpects it to be.
We think another 100bp to 150bp of rates cutscannot be ruled out and even that may not bethe end of the story. Fiscal policy may alsoneed to be used. Recall that the goal of policyis much larger than merely cushioning a
downturn. It needs to get actual output abovepotential output so that inflationary pressuresbuild up and headway can be made in dealingwith excess capacity and debt.
The cuts in reserve requirements are unlikely tosimulate the economy directly. We think theyare largely being undertaken to maintain thegrowth rate of base money to compensate forcapital outflows, a simple substitution of onecomponent of base money (net foreign assets)by another (net domestic assets). It is more ofa compensatory measure rather than astimulatory one. However, with the change inthe composition of base money towards morenet domestic assets, it is likely that theexchange rate will be weaker and that couldindirectly help growth.
The full picture
We anticipate much greater monetary stimulusthan consensus; we expect rates to be lower byat least another 100bp and for the exchangerate to be weaker. Now, these are pretty muchthe same policy settings when China wasrunning its investment-led growth story. As
such, the path to the new normal for Chinamay not be a linear one. For a few quarters,until inflation appears again, China may go
back to the model of rising investment demandand, hence, rising commodity prices. Theconsequences for the region could beprofound.
If investment rises, the capital good exporters -Japan and Korea - will benefit. Chineseinvestment has the strongest backward linkagethrough the construction industry to the mining,metals and minerals sectors. Within the region,Japan and Korea are exposed as capital goodsexporters, Malaysia exports commodities,Indonesia sends coal and India exportscommodities and metals.
Besides all this, most countries are part of asupply chain in which China plays an importantrole. China accounts for close to 50% of intra-regional imports, most of it related tomanufacturing. Intermediate goods accountedfor 70% of regional export growth over the pastdecade. The IMF has calculated elasticitiesand the countries most affected by the supply-chain effectare the Philippines, Singapore andThailand. The effect on Japan and Korea is
lower, albeit not negligible. The commodityexportersIndia, Indonesia and Malaysia donot have much supply-chain considerations butare likely to be affected as China increases itscommodity imports with rising investmentgrowth.
There are many moving parts in the globaleconomy given uncertainty over growth, policyrates, currencies and even the future of theEurozone. It is a time to move with care but, inthese trying times, it looks possible that Chinamay just be getting ready to throw one moreold-fashioned party, one with stimulus andrising investment and commodity prices.
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Economic Outlook
CIMB Bank Berhad Page 6May 2015
Sourced fromArup RAHA
CIMB Econ om ics Research Team
Figure 1: China GDP, investment and consumption growth
SOURCES: NBS, IMF, CEIC, CIMB RESEARCH
Figure 2: China CPI, PPI
SOURCES: CEIC, CIMB RESEARCH
Figure 3: Export growth of China and ASEAN (3mma)
SOURCES: CEIC, CIMB RESEARCH
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Central Bank Watch
CIMB Bank Berhad Page 7May 2015
Highlights
United States
The US Federal Reserve kept the Fed funds
rate unchanged when it last met on 29 Apr. In
a statement released at the conclusion of its
meeting, the Fed said: "Although growth in
output and employment slowed during the first
quarter, the Committee continues to expect
that, with appropriate policy accommodation,
economic activity will expand at a moderate
pace." The Fed also decided to remove any
specific references to calendar dates when
discussing the timing of a rate rise, which
could further confuse markets that have often
reacted badly to any hint of the end of cheap
money in the US economy. Minutes released
on 20 May indicated that members were
looking at a rate hike sometime after June
given economic weakness in the early months
of the year. The minutes also suggested,
however, that policymakers were ready to
move as soon as that evidence was
accumulated.
European Union
The European Central Bank (ECB) on 3 Jun
kept its interest rate and asset purchase policy
unchanged. ECB President Mario Draghi said
the bank's 1.1tr euro (US$1.2tr) stimulus
programme is supporting the eurozone's
modest recovery as the money works its way
through the financial system to the real world
of businesses and consumers. The ECB'sefforts have "contributed to a broad-based
easing of financial conditions," Draghi said.
"The effects of these measures are working
their way through to the economy. We expect
the economic recovery to broaden," he added.
Draghi cautioned, however, that Greece
remained a concern and that governments'
slow progress in reducing debt and making
their economies more business-friendly was
still acting as a weight on growth.
Japan
Bank of Japan (BOJ) governor Haruhiko
Kuroda on 22 May kept the asset purchase
target unchanged at 80tr. The central bank
also revised up its assessment of private
consumption and housing investment,
underscoring its confidence that the world's
third-largest economy has emerged from the
hit levelled by last year's sales tax hike.
However, there is some admission that there
may be somewhat of a delay in hitting the
ambitious inflation target. Deputy Governor
Kikuo Iwata said that, with the underlying trend
of inflation improving steadily and wages on
the rise, Japan is likely to hit the 2% inflation
mark around the first half of the next fiscal
year, beginning in April, while BOJ policy
board member Sayuri Shirai, said that
consumer price inflation is likely to approach
the Bank of Japan's target of 2% "toward the
end of fiscal 2016."
China
The Peoples Bank of China (PBOC) on 10May cut interest rates for the third time in six
months, reducing the one-year lending rate by
0.25% pt to 5.1% and cutting the one-year
deposit rate by the same amount to 2.25%. In
another step to free up interest rates, the
central bank will also raise the limit on what
banks can pay savers. Inflation remained
subdued and exports and imports both slid inApril, underscoring the economys struggle to
match Premier Li Keqiangs 2015 growthtarget of about 7%. With capital flowing abroad
and local governments embroiled in a complex
debt clean-up, economists anticipate further
easing.
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Central Bank Watch
CIMB Bank Berhad Page 8May 2015
South Korea
The Bank of Korea's (BOK) policy board on 11
Jun cut the policy interest rate to a record low
of 1.5%. This was mainly a pre-emptive move
to minimise the adverse impact of an outbreak
of Middle East respiratory syndrome (MERS),
with the economy already grappling with
slowing exports and sluggish domestic
consumption. Governor Lee Ju-yeol saidMERS was having a "significant" impact on
consumption as consumers preferred to stay
home while foreign tourists cancelled trips to
South Korea. "A rate cut was needed to ease
the impact of MERS, which has increased
downside risks to our growth trajectory amid
slowing exports," he said.
Australia
The Reserve Bank of Australia (RBA) on 2 Jun
kept its benchmark interest rate unchanged at
a record low of 2.0%. RBA Governor GlennStevens said, having eased monetary policy
last month, the board judged that leaving the
cash rate unchanged today was appropriate.
However, Mr Stevens held the door open for a
further cut, saying economic data would
indicate whether the current policy stance
would foster sustainable growth and inflation
consistent with the RBAs 2% to 3% target
band.
India
The Reserve Bank of India (RBI) cut interest
rates for the third time this year on 2 Jun,
reducing the policy repo rate by 25bp to
7.25%. RBI Governor Raghuram Rajan said
that monetary policy would continue to be
data-contingent, warning that a below-normal
monsoon, global crude prices and external
sector risks pose a threat to inflation. The
central bank projects inflation of around 6% by
January 2016. Rajan reiterated that the
government should avoid putting the burden
on the central bank to revive the economy,
which he believes is in a "slow recovery".
Thailand
The Bank of Thailand (BOT) met on 10 Jun,
where it unanimously decided to keep its
policy rate at 1.5%, after two consecutive cuts
in Mar and Apr. The Thai economy grew at a
sluggish pace in the first quarter as exports
contracted amid weak spending, forcing the
government to cut its 2015 growth outlook.
Looking ahead, the economy is projected toimprove gradually but subject to downside
risks from a slower-than-expected recovery of
the global economy, especially China and
other Asian economies, the bank said.
Malaysia
Bank Negara Malaysia (BNM) on 7 May left
the overnight policy rate (OPR) unchanged at
3.25%. BNMs view seems to not havechanged much from its Mar meeting. It expects
global growth, on balance, to improve at a
moderate pace, although downside risks stillpersist. On the domestic front, Malaysias
growth is expected to remain on a steady path,
supported by investment activities in the
export-oriented industries, the services sector
and infrastructure projects. This will help buffer
the lower investments expected in the oil &
gas-related sector as well as the moderation in
private consumption due to the GST. Exports
will continue to be supported by manufactured
products, benefiting from the improvements in
several advanced economies and sustained
growth in Asia.
Indonesia
Bank Indonesia (BI) on 17 Feb cut its
benchmark BI rate by 25bp to 7.50% as it
expects inflation to continue easing. The cut
effectively cancelled out the quarter-point rate
increase in late-Nov. BI also cut its overnight
deposit facility, known as Fasbi, by 25bp to
5.50% but it maintained the lending facility rate
at 8%. BI Governor Agus Martowardojo said
the central bank expects inflation to continue
to move towards the lower end of its 3-5%
year-end target.
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Central Bank Watch
CIMB Bank Berhad Page 9May 2015
Philippines
The Bangko Sentral ng Pilipinas (BSP) on 12
Feb kept its key policy rates steady at 4% for
the reverse repurchase facility and 6% for the
repurchase facility. The central bank is not
inclined to tweak its monetary policy stance for
now given subdued inflation and continued
robust domestic growth, BSP Deputy Governor
Diwa Guinigundo said. Ample liquidity andstrong domestic activity provide ample fiscal
headroom for the central bank to retain the
current benchmark interest rates despite a
steep drop in the price of oil and Chinasslowing economy.
Singapore
The Monetary Authority of Singapore (MAS)
said on 28 Jan that it will adjust its monetary
policy and let the Singapore Dollar Nominal
Effective Exchange Rate (NEER) appreciate at
a slower pace. The revision in monetary policy
came as a surprise as MAS was only
scheduled to release its next monetary policy
statement in Apr. MAS will continue with the
policy of a modest and gradual appreciation of
the Singapore Dollar NEER policy band.However, the slope of the policy band will be
reduced, with no change to its width and the
level at which it is centred, the central bank
said. "This measured adjustment to the policy
stance is consistent with the more benign
inflation outlook in 2015 and appropriate for
ensuring medium-term price stability in the
economy," it added.
Sourced from
Jarratt MaCIMB Econ om ics Research Team
Figure 4: Major central bank policy rates
SOURCES: BLOOMBERG, CIMB RESEARCH
Figure 5: Scheduled monetary policy meeting dates in 2015
SOURCES: CENTRAL BANK WEBSITES, BLOOMBERG, CIMB RESEARCH
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Fixed Income
CIMB Bank Berhad Page 10May 2015
Indonesian spreads attractive
The case for Indonesia
In our opinion, there are a couple of major
positives for Indonesias bond market: 1) on
the back of a stable political environment,
authorities are looking to boost growth via a
loose monetary stance (good for bonds) and/or
prudent fiscal spending (good for credit
ratings), and 2) indeed, Indonesia is on the
cusp of fully returning to the investment-grade
world.
Bank Indonesia (BI) cut its policy rate by 25bp
to 7.50% at its policy meeting in February. BI
also cut its overnight deposit facility rate (Fasbi
rate), which is considered the floor price in the
money market, to 5.5% at the same meeting.
CIMB economists felt that the February
loosening was more a reversal of the hike BI
introduced in November 2014. BI had raised
rates in November in anticipation of higher
prices as oil subsidies were reduced. True toexpectations, BI held the BI rate at 7.50% at its
17 Mar meeting (and the Fasbi at 5.50% and
lending facility rate at 8%) and again at its 14
Apr meeting. As BI kept policy on hold, we
were reminded of high inflation in Mar-May.
Also, Indonesias current account deficit was a
concern and a constraint on further loosening.
Indonesias inflation was high at +7.15% yoy in
May, following +6.79% yoy in Apr and +6.38%
in March. However, we also note that the May
number was boosted by the stocking up offood items ahead of the fasting month and the
numbers in Mar and April came after the
government increased fuel prices twice in
March. The first increase was relatively small
(3%) while the second was bigger (7%). The
consensus estimate for the 2015 full-year CPI
is 6.50% against +6.42% in 2014. Meanwhile,
the consensus for economic growth for 2015 is
still a relatively small 5.10% against 5.03% in
2014 and 5.58% in 2013. The view of our
economists is that the case for more rate cuts
in Indonesia this year is clear and BI may justdo it, with 2015 possibly ending with a BI rate
of 7.00%. On top of the moderate economic
growth, the decline in oil prices will help
reduce the current account deficit (and bring
down inflation). Elsewhere, capital inflows
have been strong, resulting in an accumulation
of reserves.
On 22 May, Standard & Poors upgraded
Indonesias BB+ sovereign rating outlook to
Positive from Stable. This signalled the
possibility of an upgrade to investment grade
(BBB-) within a year, bringing it on par with
Moodys (Baa3) and Fitchs (BBB-) ratings on
Indonesia. S&P cited greater policy
effectiveness and predictability have resulted
in expanded fiscal and reserve buffers and
improved Indonesias external resilience as
reasoning for the upgrade. We believe this
was brought on by fiscal reform moves by the
new government, including the fuel subsidy
cuts, and expectations of more potent fiscal
spending and budgetary discipline. Earlier this
year, Moodys also said Indonesias narrowercurrent account deficit and balance of
payments surplus are credit positives and
these will lower external financing costs for the
government. We think that when or if
Indonesia is upgraded is secondary. What is
important is that the Positive outlook should
maintain inflows to the country, with the hope
that the higher rating will dampen the risk
premium on Indonesia going forward.
Furthermore, an investment-grade rating
solidifies Indonesias inclusion in global or
Asia-centric fixed income indices, such as
Citis Asia Pacific Government Bond Index,
which relies heavily on S&Ps ratings. Data
dated 30 April by Citi showed that Indonesia
has a 7.0% weightage in this index.
That aside, we note that net foreign inflows to
the IDR govvies market continued to rise,
recording a pace of IDR6.3tr in May 2015, with
the foreigners share of outstanding IDRgovernment bonds maintained at 38.4% vs
38.5% in April. A continued delay in the
expected Fed rate hike to end-2015 and thesustained injection of liquidity by global central
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Fixed Income
CIMB Bank Berhad Page 11May 2015
banks contributed to the foreigners current
high shareholding.
IDR spreads are attractive
IDR government bond yields have surged in
the past couple of months. The 5-year
indicative yield is now hovering around 8.10%
versus 7.35% at the start of April, a climb of
75bp. The sell-off coincided with higher
inflationary expectations as the fuel subsidy
was cut, liquidity was tight whilst BI held itspolicy rates and the IDR was weak against the
surging USD, surpassing the 13,000 level. On
top of increased EM fears during the period,
Indonesia was also held back as the Jokowi
government still had not detailed its spending
plans (especially infrastructure and other
growth-boosting spending out of the savings
from the fuel subsidy cuts).
However, we expect to see a rebound in
demand for IDR bonds in the short- to
medium-term horizon. Expected policy ratecuts later this year look likely to happen and
will ease liquidity concerns. Meantime, inflation
should be able to trend downwards. Also, the
government will have the next budget
(announcement slated for 2H2015) to outline a
more prudent plan and identify spending
targets to boost the economy. Indonesia will
ride on the S&Ps positive outlook, especially if
fiscal reforms continue.
After the recent surge in bond yields, we think
spreads are now attractive. We note the 3-year
IDR govvies is now at about 7.90% versus
levels of 6.75% at the start of Mar 2015. That
is a jump of 115bp, bringing it to above the BI
rate of 7.50%. Yield pick-up is also attractive
vis--vis regional markets. Indonesian 10-year
govvies (Baa3/BB+) versus Malaysias (A3/A-)
10-year is currently near a spread of 440bp.
This is its widest since Sep 2014. Meanwhile,
the spread between Indonesias 10-year bond
and Thailands (Baa1/BBB+) is more than
540bp and up from 440bp in Feb this year.
Indonesias 10-year spread over 10-year US is
near 600bp. This is a jump of about 100bp
since Feb 2015 and the widest since Dec
2014. In addition, we take note of the razor-
thin spreads along the IDR govvies yield
curve. The spread between the 3-year and 10-
year government bonds has tightened to under
30bp against a range of 60-130bp over a year
ago. This signifies pent-up demand for longer-
term govvies and players preference for IDR
duration.
Risks
Risks to our expectations include IDR
remaining on a weak trajectory and sustaining
its risk premium, a faster rise in UST yields as
global investors price in a quicker Fed hike
and foreign shareholding looking a tad high
whilst a decline in short-term yields will need a
surer signal that BI is closer to slashing rates.
On the other hand, our prior concerns over a
surge in short-term fresh issuances of IDR
government bonds have now diminished,
following the recent heavy activity in thissegment.
Supply less of a worry
Financing requirements may be more
comfortable in 2H2015. So far this year, the
government has issued approximately 55% of
its 2015 gross debt issuance target. This is in
line with its frontloading strategy where 60% of
its targeted offerings are to be issued in
1H2015 and 40% in 2H2015. The expectation
is that the government will issue IDR26tr of
securities in Jun 2015 (from five regular bond
auctions). However, the government is also
likely to issue less than the targeted in Jun to
Jul due to the high-yield environment but we
think it will still meet its target relatively easier
thereafter, judging by the expected smaller
size. In 2H2015, the government may issue
IDR1.0tr of retail bonds and one global bond,
amounting to IDR35tr in total.
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Fixed Income
CIMB Bank Berhad Page 12May 2015
Sourced from
Nik A. Mukharr iz
CIMB Group Treasury Fixed Incom e Research Team
CIMB Investment Bank B hd
Figure 6: 10-year government bond yield movement (%)
SOURCES: BLOOMBERG, CIMB ESTIMATES
Figure 7: 3-year and 10-year IDR government bonds yields and spread
SOURCES: BLOOMBERG, CIMB ESTIMATES
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Latest Highlights
CIMB Bank Berhad Page 13May 2015
How much should markets fear a Greek default?
The spectre of a Greek default continues toconcern investors, but how much would aGreek default really disrupt markets?
Greeces Prime Minister, Alexis Tsipras, isfacing an unwinnable game. Having ordered a
750 million loan payment to the IMF in May,just hours ahead of crunch talks with Greecescreditors, the country remains far from out of
the woods. The next IMF deadline is thisFriday (5th June), when a 300 million loanrepayment is due. In May, some members ofMr Tsipras governing Syriza party had lobbiedfor defiance of the payment. What remainsclear is that Mr Tsipras can either appease thecountrys creditors or his electorate. Not both.
Without further assistance, Greece coulddefault on its debt repayments as soon as thisweek. But how significant an event would adefault be for investors?
Systemic links reduced
It is important to note that it is far from certainthat a default on its IMF payment would lead toGreeces exit from the eurozone andconsequently a default on its Europeanlenders.
Greeces links with the eurozone financialsystem have significantly declined in the wakeof 2012, when one of the largest debtrestructuring deals in history wiped 100 billionfrom Greeces liabilities. The risks associatedwith Greek sovereign debt also largely passedfrom the eurozones banking sector to the
eurozones public sector.Who holds Greek debt?
The bulk of Greek debt is held by theEuropean Financial Stability Facility (EFSF),the European Central Bank (ECB), and theEuropean Investment Bank (EIB) as well assome in bilateral loans. The bilateral loans,according to S&P, amount to 53 billion, sotheir importance should not be downplayed.However, in October 2014, the degree of directexposure to Greek debt by eurozonegovernments stood at 302 billion. This
amounts to around 3% of eurozone GDP(excluding Greece), and we believe that the
direct impact of a Greek default should belimited.
Impact of a default
From the EFSF perspective, the net balancesheet exposure to Greek bonds is around
166 billion, but this will be absorbed by theeurozone member states over a number ofdecades. The restructuring process also
extended the repayment schedules for theGreek bonds in question. The first repaymentto the EFSF is due in only 2023. It is alsoimportant to note that the central banks ofmost eurozone member states would not needto cover capital short falls as a commercialbank would.
The ECBs exposure is predominantly via theEmergency Liquidity Assistance (ELA)scheme, which allows Greek banks access tothe additional liquidity so long as they canprovide enough eligible collateral. Were
Greece to default on a bond payment, the ECBwould be able to withdraw this support, andany shortfall, as detailed above, would notnecessarily need to be covered.
The EIB exposure amounts to around 7billion. In relative terms, this is a small sum forthe EIB and we envisage no risk of the bankbecoming insolvent. On its own, it would notdestabilise the bank.
Contagion risk
Finally, the contagion risk for Greek debt hasalso been theoretically muted by the
establishment of the European StabilityMechanism. This pot of capital, of around 500billion, should maintain the flow of cash foraffected states should there be any threat tovital payments brought on by a Greek default.
Of course, the possibility of hidden financialties, as well as indirect and politicalimplications, must not be ruled out. If Greeceoutright and unilaterally defaults, it is likely tohave significant market implications at least inthe short run. However, we believe thatstructurally, global financial markets look well
shielded from the fallout of such an event.
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Latest Highlights
CIMB Bank Berhad Page 14May 2015
Sourced from
Alan Cauberghs
Senior Investm ent Director, Fixed incom e
Schroder Investment Management Limited
Important Information
The material above is provided for informational purposes only. Reliance should not be placed on the
views and information expressed when making individual investment and/or strategic decisions.Please note that the views expressed in these articles are those of the authors and do not necessarilyrepresent Schroders' views.
Issued by Schroder Investment Management Limited, 31 Gresham Street, London EC2V 7QA.Registered No: 1893220 England. Copyright 2015 Schroders plc
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