Are fears of ringgit weakness exaggerated?


  • Business
  • Saturday, 04 May 2019

Government and corporate bonds with a total value of $17 billion at the end of 2018 would be affected, according to a Reuters calculation based on fund data. These are issued by Chile ($362 million), the Czech Republic ($50 million), Hungary ($63 million), Israel ($117 million), Malaysia ($1.9 billion), Mexico ($5.7 billion), Poland ($1.05 billion), Russia ($1.2 billion), South Korea ($6.3 billion) and Thailand ($241 million), the ministry said in a statement listing the countries, with the amounts taken from fund data.

THE first-year anniversary of Pakatan Harapan comes with a shift in the outlook of the ringgit compared to a year ago.

A cause for concern is foreign investors reducing their holdings in ringgit-denominated debt papers that could result in a potential outflow of up to US$11bil from the Malaysian bond market.

This comes on the back of Norway’s sovereign wealth fund cutting down on its bond holdings in nine emerging-market countries, Malaysia included. The move is expected to see some US$2bil flowing out of the Malaysian bond market over time.

Another factor bogging down the ringgit is the possible downgrade of the domestic bond market by FTSE Russell in September. If it happens, Malaysia would be excluded from the World Government Bond Index (WGBI) for the first time since 2007.

An exclusion from the WGBI could potentially see foreign investors taking out up to US$9bil from the Malaysian bond market. Put together, we are staring at up to US$11bil, which is about 7% of the total outstanding debt papers, flowing out of the domestic market.

The third factor weighing down on the ringgit is the possibility of Bank Negara reducing its base rate by 25 basis points to 3%, something that would cause the yields on debt papers to be reduced.

The three factors, put together, are a cause for concern, causing the ringgit to decline by 5.33% against the US dollar so far this year.

However, looking at the turn of events in the last few weeks, are fears of the ringgit weakening significantly against the US dollar overdone?

Firstly, the ringgit is not the only currency that has weakened against the dollar. Year-to-date, the won and the yen have performed worse and were battered due to the unexpected resurgence of the US dollar, despite data of weakening economic fundamentals coming out of the world’s largest economy.

In the last three months, the worst-performing currency has been the Argentine peso, which is down 17% against the greenback, while the Turkish lira is down 12.85%. Both these currencies continue to suffer from weak economic fundamentals.

As for Malaysia, the fundamentals are relatively intact with business confidence rising to the highest level since April 2013, according to a survey by Nikkei.

According to the research house, the latest survey indicates better days ahead for the country. It predicts an economic growth rate of 5.2% for Malaysia this year, which is higher than the official growth rate projection of 4.9%.

Economic projections change with sentiment. It is only five months into the year and there are still headwinds in the global economy.According to the International Monetary Fund, the global economy is expected to slow down. From the US to Germany and Japan, all countries are expected to record slower growth this year and next.

To counter a slowing economy, interest rates tend to come down.

Towards this end, the US has taken the lead by reversing its earlier decision to keep on raising interest rates this year. The Federal Reserve (Fed) was supposed to have raised the base rate by as much as 0.75% this year, but has decided against it. Now, there are suggestions for the Fed to reduce the rates in the second half of the year.

What has caught everyone by surprise is that despite the Fed not raising rates, the US dollar has strengthened. The US dollar Index, which measures the greenback against a basket of currencies, is at a two-year high.

Generally, when interest rates are on the downtrend and future economic fundamentals weaken, the currency weakens. But it has not happened in the case of the US dollar.

The reason is because of the US dollar’s standing as the currency of safety when there are economic uncertainties.

This brings us to the second reason why fears over the ringgit may be overdone.

Earlier this year, apart from a slowing US economy, there were fears of China still being unable to fix its domestic economy. However, the latest results of Apple show that there has been a rebound in the sales of smartphones in China.

The improved sales have been attributed to, among others, the Chinese government’s measures to pump-prime the domestic economy. In Europe and Japan, measures taken by the government to lift the economy are beginning to show results.

The tensions due to the US-China trade war have diminished and contributed to the improved sentiment in the global economic outlook.The end result is, unlike earlier this year, fewer reasons for capital to flow into US dollar-denominated assets in the case of economic uncertainties. This augurs well for emerging markets such as the Malaysian ringgit.

The third reason is that the Malaysian budget is based on oil at US$70 per barrel. The government should have enough buffer to see through the objectives of Budget 2019 even if the price averages lower.

Apart from oil revenues, the collection from taxes is also expected to be more than what had been projected in Budget 2019. For instance, the collection from the tax amnesty programme that is estimated at RM10bil was not taken into account when the budget was prepared,

Malaysia should be able to reach its targets set out in Budget 2019. This, in turn, should allay fears of the country being downgraded by rating agencies.

Currency markets work in strange ways. They are largely sentiment-driven and the logic is difficult to comprehend. An example is the unexpected resurgence of the US dollar when the US economy is projected to slow down.

Generally, the sentiment on Malaysia is not as good as it was a year ago. This has weighed down the ringgit. The sentiment will change, given time, as long as there is no erosion in the real economy.

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