SUMMARY

● The global economy is poised for a bumpy ride in 2H22, driven mainly by soaring inflation, acceleration in global monetary policy tightening, prolonged Russia-Ukraine crisis, and ongoing China’s zero-COVID policy which are likely to extend global supply chain disruptions and elevated energy prices.

● Red-hot inflation may continue to dominate the financial markets, forcing major central banks to become more aggressive. The aggressive move may cause a sharp rise in the unemployment rate and amplify the risk of a sharp economic slowdown.

● US Treasury (UST) yields will likely be driven considerably higher in 2H22 as the Fed continues to tighten monetary policy aggressively. As such, we raise our 3Q22 forecast for the 10Y UST to 3.50% and our end-2022 target to 3.70%.

● Given the elevated commodity prices amid ongoing supply disruptions caused by the Russia-Ukraine crisis and supply restraint from the OPEC+ alliance, we have revised 2022 Brent crude oil prices to USD110.0/bbl (2021: USD70.9/bbl) from USD90.0/bbl. Price would also remain relatively high compared to the 2021 level, supported by rising global demand.

● Even though COVID-19 cases may trend higher in the next few months, it is highly unlikely that the world may experience another round of lockdown. However, China may still stick to its zero-COVID policy until end-2022.

● As Malaysia's COVID-19 situation may continue to be under control due to the country's high vaccination rate, the government is expected to intensify efforts to rebuild tourism-related sectors. This may help to boost economic growth in 2H22, but downside risks remain.

● GDP growth is expected to be supported by a robust recovery in the services sector and sustained expansion in the manufacturing sector amid growing demand from the domestic and international markets. In addition, private consumption will continue to drive growth underpinned by financial measures (special EPF withdrawal) and improvement in labour market conditions. Overall, we retained our GDP growth forecast at 5.0% - 5.5% (2021: 3.1%).

● The labour market is expected to improve, with the unemployment rate projected to settle at 3.9% for 2022 (2021: 4.6%), which indicates a full-employment level but remains below the pre-pandemic level (3.3%).

● Fiscal policy is expected to remain expansionary but at a reduced deficit of 5.8% in 2022 (MoF: 6.0%; 2021: 6.4%) with the government to step up its spending in 2H22. With that said, we project the federal government debt to GDP ratio to ease to 62.6% (2021: 63.5%), with statutory debt well below the 65.0% limit.

● Malaysia recorded a solid RM27.8b worth of FDI approvals in 1Q22 and MIDA has recently outlined several initiatives that should bolster Malaysia’s foreign and domestic investments going forward.

● Rising food prices due to the global supply chain disruptions and removal of price ceilings, coupled with dissipating highbase effect may push the inflation rate higher in 2H22, bringing the headline CPI to average at 3.3% in 2022.

● BNM may raise the OPR by 25 bps at each of the three remaining Monetary Policy Committee (MPC) meetings this year, as it pre-emptively addresses growing inflationary pressures and aggressive rate hikes by other major central banks.

● With the strong bullish USD momentum in place, driven mainly by a more hawkish Fed, foreign inflows are expected to remain tepid across most emerging markets, including Malaysia. Coupled with elevated level of volatility, the ringgit may continue to face depreciatory pressure. Hence, USDMYR is projected to settle at 4.35 at the end of 2022.

● The Malaysian bond market is expected to record a substantial foreign portfolio outflow in 3Q22 as it is expected to experience broad weakness over 2H22 amid the Fed’s aggressive monetary policy tightening, a further global bond selloff, and potentially slower domestic economic growth.

● MGS yields are expected to be steered higher over 2H22 due to a strong UST yield uptrend and likelihood of further BNM rate hikes. As such, we raise our 3Q22 target for the 10Y MGS to 4.45% and our end-2022 forecast to 4.60%.

● Several external downside risks to Malaysia’s outlook remain, from China’s sustained zero-COVID policy, the prolonged Russia-Ukraine war, and the increased probability of a US recession following the Fed’s larger rate hikes.

Source: Kenanga Research - 27 Jun 2022