Overview

• Up USD0.5b in December. Malaysia foreign reserves rose USD0.5b in December to end the year at USD102.4b, a 30-month high. Its current position is sufficient to finance 7.2 months of retained imports and 1.1 times short term external debt. The reserves in ringgit term declined RM15.8b to RM414.6b following the currency revaluation exercise.
• Exports and FDI driven expansion. Solid exports receipts and positive inflows of foreign direct investments (FDI) amid ongoing infrastructure projects continued to support the expansion in foreign reserves.
• Portfolio investment to stay positive. Favourable stock’s valuation and competitive bond yields will underpin solid net portfolio investment inflows. Meanwhile, the net foreign flows in the equity market turned to a positive RM0.96b in December following four months of capital outflows
• Ringgit might take a breather. Notwithstanding the recent strength in the ringgit, the widely expected Fed tightening and the new US tax reform may exert downward pressure on the ringgit.
• Monetary policy on the watch. We do not expect the recent positive uptrend of the ringgit to materially influence the BNM’s stance on monetary policy. In view of the positive growth momentum, improving financial conditions coupled with possible BNM’s attempt to offset the impact of the Fed rate hike on the capital market, we believe Bank Negara may tighten its monetary policy as early as in the 1Q18.

Steady expansion of USD0.5b in December. Malaysia’s foreign exchange reserves saw another month of expansion in December, rising USD0.5b to end the year with an outstanding amount of USD102.4b, the highest since June 2015. Malaysia has enjoyed uninterrupted rise in its foreign exchange reserves last year, gaining around USD7.9b for the whole of 2017. At this level, it is sufficient to finance 7.2 months of retained imports and is 1.1 times the short-term external debt.

Reserves in ringgit term falls. After accounting for foreign exchange revaluation changes, the local currency equivalent of foreign reserves declined by RM15.8b to RM414.6b as at end-December. To a large extent, this is attributable to an appreciating ringgit against the US dollar for the month. The implied USDMYR rate stood around 4.0488 at the end of December compared to 4.2249 in the preceding month. In a similar fashion, the ringgit value of reserves fell RM9.6b in 2017 after the revaluation exercise.

Driven by exports and net FDI flow. For the most part of last year, Malaysia has clearly benefited from the synchronised global trade recovery and positive inflows of foreign direct investment (FDI) amid improving economic environment, supporting the Bank Negara Malaysia (BNM) efforts to accumulate higher reserves following the large depletion of reserves during the relentless capital outflows seen over the preceding years. Meanwhile, exports performance remained solid in November at 14.4% YoY. For 2018 and beyond, we expect foreign participation in the ongoing major infrastructure projects to continue to contribute a major portion of the inflow of foreign direct investment. Along with sustainable current account surplus it is expected to help drive the expansion of foreign reserves this year.

Portfolio investment flows to remain resilient. The net foreign flows in the equity market turned positive in December, attracting a net RM0.96b of foreign funds after four consecutive months of capital outflows. This brought the full year net foreign flows to a total of RM10.3b, in line with the overall expansion in foreign reserves. Going forward, we anticipate sustained portfolio investment inflows into the domestic equity and bond market on the premise that stock’s valuation and bond yields remain attractive backed by strengthening of domestic demand and stable economic conditions. Nonetheless, the Fed monetary tightening could pose a downside risk to the bond market, though we see the risk of an adverse capital outflow as somewhat limited. Hence, this has given us some comfort on the prospect of a steady expansion in the foreign reserves in the near to medium term.

Ringgit might take a breather. The ringgit has joined a basket of other regional currencies in an appreciating trend against the US dollar mainly due the weakness in the dollar. The US dollar has depreciated around 9.8% against the ringgit in 2017, with the USDMYR pair currently stood at around 4.00. Notwithstanding the recent strength seen in the ringgit, the local currency is expected to experience volatility in the face of widely expected Fed tightening of at least three 25bps rate hike for the year. Furthermore, the current weaknesses in US dollar might dissipate as the new US tax reform proceed and provide a boost to its economy and currency, therefore implying a softer ringgit against the dollar. As a result, we might see the ringgit to be at times under some pressure to weaken though it is partly supported by strong fundamentals and positive sentiment. Though we expect that the USDMYR may test the 3.95 level in the 1Q18 it may retrace back to around 4.10.

Monetary policy on the watch. We take the recent positive uptrend of the ringgit as a sign that the local currency is now gradually shifting towards its fundamental value. Thus, we do not expect the strength in ringgit to materially influence the BNM’s stance on monetary policy. In view of the improving financial conditions coupled with possible BNM’s attempt to offset the impact of the Fed rate hike on the capital market, we believe BNM may tighten its monetary policy and raise the OPR by 25 basis points as early as in the 1Q18.

Source: Kenanga Research - 8 Jan 2018