OVERVIEW

● Foreign holders of Malaysian bonds remain net sellers for two consecutive months as net total foreign holdings fell by RM3.0b or 1.6% MoM in September (August: -1.3%). Consequently, total foreign holding of Malaysia’s debt falls to 13.4% in September from 13.6% in the preceding month. The strong pull towards US dollar assets backed by the strong US economy, fears on US-China trade war, and the US Fed on track towards a fourth rate hike this year, possibly three in 2019 and another in 2020 were the underlying reasons for the continued emerging market (EM) selloff.

● The net decline in September was largely attributable to the fall in Malaysian Government Securities (MGS), conventional BNM bills and private debt securities (PDS) by RM5.6b, RM1.0b and RM0.2b respectively. However, foreigners turned net buyers for Government Investment Issue (GII), Malaysia Treasury Bills (MTB) and Malaysia Islamic Treasury Bills (MITB), adding RM1.2b, RM2.3b and RM0.4b respectively.

● Strong US economic data namely low unemployment rate and expanding corporate profits continue to push demand for US Treasury note. The US 10-year Treasury note average yield rose 14 basis points (bps) to 3.01% in September. Meanwhile, the benchmark 10-year MGS average yield went up by 7 bps to 4.11% in September. As a result, the MGS-US Treasury average yield spread narrowed to 109 bps from 117 bps in August. The US government's decision to cut taxes and increase spending over the past year is fuelling the economy as a deluge of debt issuance from the Treasury Department hits the markets while the US Fed continue to raise interest rate, making the US an attractive place for investment.

● We expect the outflow of portfolio funds to continue by year end as there are another USD11.1b debt maturity in 4Q18 compared to USD6.4b in 3Q18. For the Jan-Sept period, net total foreign bond holdings fell by RM22.2b (JanSept 2017: -RM14.5b). The Ringgit is expected to be under pressure for the rest of the year, but higher oil price which currently trading at USD83.0/bbl and a positive current account balance as well as ample liquidity may continue to support the currency. Hence, we maintain our year-end USDMYR forecast of RM4.05. Additionally, we expect BNM to leave the Overnight Policy Rate unchanged at 3.25% for this year while its counterparts in Indonesia and the Philippines have raised their benchmark interest rate by 25 and 50 bps to 5.75% and 4.50% respectively to deal with stubborn inflation and currency turmoil triggered by higher US interest rates and stronger US dollar.

Source: Kenanga Research - 8 Oct 2018