OVERVIEW

● Foreign investors remained as net sellers of Malaysia’s debt securities in December, as total foreign holdings dropped by RM2.2b or 1.2% MoM to RM184.8b, less than the RM5.2b or 2.7% MoM decline observed in the previous month. Consequently, the share of total foreign holdings of Malaysia’s debt inched lower to 13.3% (Nov: 13.5%), marking its lowest share since April 2010. For the whole year of 2018, total net foreign bond holdings fell markedly by RM21.9b (2017: - RM8.0b). The sell-off occurred against a backdrop of financial market turmoil amid ongoing trade war concerns, tumbling global oil prices and monetary policy tightening in the US and other advanced economies.

● December’s decline was largely due to a net decline of Malaysian Government Securities (MGS) by RM1.5b (Nov: -RM5.4b), pulling down foreign holdings share of total MGS to 38.4%, the lowest since November 2011, as well as by a net decline of Malaysian Treasury Bills (MTB) by RM1.2b (Nov: -RM0.1b), tilting the foreign holdings share of total MTB down to 60.4%. The moderation has more than offset a net increase of Government Investment Issues (GII) by RM1.0b (Nov: +RM0.2b), bringing the foreign holdings share of total GII higher to 5.2%.

● Nevertheless, pull-out of funds by foreign investors was less compared to the previous month, given firmer dovish stance signalled by the Fed. While the Fed hiked interest rates by 25 basis points (bps) to 2.25%-2.50% at its December Federal Open Market Committee (FOMC) meeting, it has sent a dovish signal to the market by slashing growth, inflation and rate outlook. FOMC members currently expect 2.3% GDP growth (previous: 2.5%) and 2.0% core PCE inflation (previous: 2.1%) this year. The Fed Funds rate is expected to end 2019 at 2.9% (previous: 3.1%), suggesting another two rate hikes instead of three in 2019 and one in 2020 previously. Against this development, the US 10-year Treasury note average yield dropped by 29 bps to 2.81% in December, while the benchmark 10- year MGS average yield decreased by 3 bps to 4.08%, widening the average yield spread to 127 bps (Nov: 102 bps).

● We expect the outflow of portfolio funds to persist this year, albeit at more moderate pace, due to looming riskaverse sentiments in relation to trade war and growth concerns, as the punitive measures enacted thus far started to take a toll on business activities, evidenced by moderation in trade activities of regional and advanced economies and unfavourable manufacturing PMI figures in both the US and China. As domestic indicators are pointing towards growth moderation and as inflation is expected to remain benign on the back of subdued global oil prices, we believe BNM will hold the OPR unchanged at 3.25% in 2019. Nonetheless, if external uncertainty turned for the worse, BNM may gradually turn dovish or perhaps cut interest rates to stimulate the economy. However, the probability for that to happen is low for now. As for ringgit’s performance, a more cautious Fed is expected to dominate the outlook signalling a weaker dollar and hence a firmer Ringgit, supporting our year-end forecast of USDMYR at RM4.10 (end-2018: 4.13).

Source: Kenanga Research - 10 Jan 2019