-  On Wednesday, the Federal Reserve concluded its final Federal Open Market Committee (FOMC) meeting for the year by taking the initial leap to unwind the unprecedented stimulus. The FOMC decided to trim its monthly bond purchases to USD75bil from USD85bil effective January 2014.

-  The Committee will add to its holdings of agency mortgage-backed securities at a pace of USD35bil per month (instead of USD40bil currently), and will add to its holdings of longer-term Treasury securities at a pace of USD40bil per month (vs. USD45bil currently).

-  As a recap, the jobless rate in the US has fallen to 7% in November. Unemployment was down from 10% in October 2009 (during the recession) but is still higher than 4.4% in May 2007.

-  The Committee also reaffirmed that the current exceptionally low federal funds targeted rate of 0%-0.25% is appropriate – as long as the unemployment rate remains above 6.5%, and inflation in the coming two years ahead is not more than 0.5ppt above the FOMC’s longer-run goal of 2.0%.

-  A stronger than expected growth and the alteration of monetary policy in the US will likely result in the following:- (1) repatriation of foreign funds from the Asian region to the US; and (2) weaker regional currencies vis-à-vis USD.

-  The outflow of funds will nonetheless be compensated by improvements in overseas shipment to the US as private consumption in the US improves moving forward. In terms of Malaysia’s trade direction, the US is a major trading partner, constituting 8.7% of exports and 8.1% of total imports in 2012.

-  Meanwhile, Ringgit is expected to stay weak as the US scales down its QE. On top of that, Malaysia continues to face domestic challenges involving ongoing fiscal consolidation efforts.

-  Note that the Ringgit has weakened by about 10.0% as of Wednesday from a high of 2.9625 on the close of May 8, 2013.

-  Considering that the unwinding will take effect gradually and will extend until at least mid-2014, the correction for the Ringgit is expected to be across a longer period of time and is unlikely to be as steep as it was in 2011 when the Fed tapered QE2.

-  As of YTD December 2013, the size of the QE is approximately USD1.14tril, which is about double the amount of QE2. Asset purchases under QE2 which ended in June 2011 had amounted to USD600bil.

-  In the interim period, Ringgit could potentially depreciate by at most another 7.0% to approximately RM3.45 should the QE continue to unwind and OPR is capped at 3.0% level.

-  Our year-end target for the Ringgit is RM3.20 per USD for 2014 provided that interest rate in Malaysia rises by 25bps in 2014.

Source: AmeSecurities