● Foreign investors remained net sellers of Malaysia’s debt securities for the second consecutive month in October (- RM6.3b; Sep: -RM0.4b), recording the largest foreign portfolio outflow in 32 months

- Total foreign debt holdings fell to RM248.7b (Sep: RM254.9b), with its share to total outstanding debt down to a 25-month low (13.4%; Sep: 13.8%).

- Foreign selling of Malaysian bonds worsened as domestic political risk intensified following the dissolution of parliament (Oct 10) and as global risk aversion persistedon expectations of another massive rate hike by the US Fed in November. Domestic bonds became increasingly less attractive as yield spreads against US Treasuriesnarrowed substantially.

● The outflow was attributable to a broad-based sell-off of government bonds, led by Malaysian Government Securities (MGS), Malaysian Islamic Treasury Bills (MITB), and Government Investment Issues (GII)

- MGS (-RM2.7b; Sep: -RM2.6b): foreign holdings share fell to its lowest level since November 2011 (34.8%; Sep: 35.9%).

- MITB (-RM2.0b; Sep: RM2.2b): foreign holdings share remained at 22.6% (Sep: 22.6%).

- GII (-RM1.2b; Sep: RM0.1b): foreign holdings share declined to a 15-month low (8.3%; Sep: 8.6%).

● For the equity market, foreign investors remained net sellers for the second successive month

- Foreign outflows edged lower (-RM0.6b; Sep: -RM1.6b), even as global risk sentiment remained tepid.

● Overall, the capital market recorded its largest net outflow since March 2020 (-RM6.9b; Sep: -RM2.1b)

● Debt market may see further outflows in the near-term but could find some respite on smooth power resolution post GE15

- The 10-year US Treasury average yieldsoaredby54bps to4.03% in October, whilst the 10-year MGS average yield increased by 25 bps to 4.42%, narrowing the average yield spread to its lowest level since April 2010 (39 bps; Sep: 68 bps).

- Foreign demand for Malaysian bonds will likely remain pressured in the near-term, on sustained global risk-aversion and heightened domestic political uncertainty. Bond outflows may soften following the resolution of the 15th General Election (Nov 19), but this is contingent on the swift formation of a government and the avoidance of a hung parliament. Ultimately, foreign inflows may not return until global risk sentiment markedly improves, and this is highly dependent on the US Fed pausing rate hikes. With that said, we still expect most major central banks to complete their tightening cycles by 2Q23, which could trigger a return of global risk-on sentiment and a strong recovery in bond flows.

- We continue to assign a 50.0% probability of another 25bps rate hike by BNM in January 2023, capping its tightening cycle, given the prospect of a recession in the US and Euro Area, softer growth in China, and expectations of slower domestic growth next year.

Source: Kenanga Research - 9 Nov 2022