Pace of decline slows. Malaysia’s foreign reserves fell by US$2.2b in the 1H of August compared to US$3.8b in the 2H of July and US$5.0b in the 1H of July. As at mid-August, the international reserves held by Bank Negara totalled US$94.5b (RM356.4b). The latest data shows that pace of decline has slowed after reserves fell by about US$8.8b or RM33.5b in July, the highest single month loss since Sep/Oct 2008, at the height of the Global Financial Crisis. The current reserves level is sufficient to finance 7.5 months of retained imports and is 1.0 times the redefined short term external debt.  

Intervention eased. The smaller decline in reserves in the 1H of August compared to July may have reflected further degree of easing of BNM’s forex intervention. For the whole of July, the central bank was seen as very aggressive in defending the ringgit which stubbornly held at around 3.80 ringgit to the US dollar in spite of large outflows of capital. This is reflected in the large net foreign equity decline of about RM2.8b in July following RM3.2b drop in June which is by far the highest monthly net outflow this year.  

Accepting new reality. Now that the ringgit is well past the USDMYR psychological level of 4.00, it appears that BNM is intervening less in forex markets, allowing market forces to determine the level of the ringgit. BNM views that letting the ringgit depreciate is a lesser evil when compared to adjustments in prices or domestic demand that would have to happen in a strong ringgit scenario. Though it still intends to put the brakes on the sharp depreciation of the ringgit, we reckon efforts to fully defend are futile. Hence, from now on we expect BNM would just manage spikes and the high volatility of the ringgit exchange rate. This may have partly caused the ringgit to fall about 1.0% to 4.1870 per dollar, its weakest since Aug 31, 1998, hours before the bi-monthly reserves data release, Eventually it settled at 4.1685 at the time of the release of the BNM reserves data. Judging by the declining trend, we expect that the level of reserves would deplete further in the 2H of August but by not as much in July as BNM eases its support of the ringgit against continued capital outflows and selling pressure by foreign funds.  

Further downside. The ringgit is the worst performing currency in the region having fallen by about 16.0% year-to-date and 23.9% over the past 12-months against US dollar. The ringgit is significantly lower than other major currencies including pound sterling and the Singapore dollar. The downward pressure on the ringgit is expected to pick up ahead of the highly anticipated US Fed rate hike to take place possibly as soon as its next meeting in September (16-17th). In the meantime, the emerging market’s currencies, including the ringgit, would continue to be under selling pressure due to weakness in commodity prices, China’s large and sudden devaluation of its currency and broad US dollar strength. Domestically, financial fiscal governance and political issues would likely add to the mounting pressure on the ringgit. Hence, we expect the ringgit would immediately test the 4.20-25-level against the dollar as volatility heightens ahead of a possible Fed rate decision. The likelihood that it would breach this level is relatively high over the next few weeks. Given the unprecedented speed of ringgit depreciation and based on our preliminary analysis we may see the ringgit settling above 4.00-level against the US dollar by year-end. This means that our newly-revised forecast of 3.87 is up for another revision, unmistakably very soon.

Source: Kenanga Research - 24 Aug 2015