One of the closest barometers for the ringgit is the correlation with foreign portfolio flows. And for the local bourse, a continuous inflow of foreign funds suggests that the market has good prospects.
Up to July 2023, based on data compiled by Bursa Malaysia and Bank Negara, foreign portfolio inflows into the Malaysian capital market has been strong with total cumulative net inflow at RM29.6bil. A strong inflow of RM12.7bil was seen in July 2023. The July inflow was mainly due to the massive inflow of some RM11.3bil in the Malaysian fixed-income market while the equity market saw an inflow of RM1.4bil for the same month.
For foreign investors, there are only two reasons to buy Malaysian fixed-income instruments and this is either related to the current yield spread vis-a-vis other foreign jurisdictions; or in anticipation of capital gains, which foreign investors may realise on the back of the strengthening ringgit or drop in the benchmark yields.
The benchmark five-year and 10-year Malaysian Government Securities (MGS) papers, average traded yield in July 2023 was at 3.62% and 3.87% respectively, which is not significantly higher than regional peers and much lower than what US treasuries offer sovereign bond investors.
Based on the current yield on the 10-year MGS at 3.85%, the local sovereign paper is only higher than Canada (at 3.69%), half of Europe (which trades between as low as 0.95% in Switzerland to as high as 19.5% in Turkiye), Japan (at just 0.64%), Singapore (3.26%), Thailand (2.58%), Vietnam (2.68%), China (2.56%), and Taiwan (1.21%).
However, when viewed with Malaysia’s current credit rating of A- by Standard & Poor’s, Malaysia’s rating is only higher than that of Thailand and Vietnam as these two countries are rated BBB+ and BB+ respectively. Hence, the argument of foreign inflows into the Malaysian fixed-income market for carry trade purposes has little weight as there are other more rewarding options out there, and to start with, the US treasuries.
Although in July, the 10-year US treasuries only gave investors almost identical returns when compared with the similar 10-year MGS, the yield spread has now widened to more than 40 basis points as the 10-year US treasury paper has now spiked to almost 40 basis points against the current yield on the 10-year MGS at 3.85%.
Hence, the other underlying pull factor has to be the inexpensive ringgit. In July this traded at about RM4.5939 to the US dollar and down some 4.6% since the end of last year’s close of RM4.3900 to the dollar. Short-term funds must have positioned themselves in anticipation of a weaker dollar, which in turn would result in foreign exchange gains once these positions are closed.
Bank Negara is not expected to raise the overnight policy rate (OPR) any higher. As such, portfolio inflows are in for both capital gains as well as perhaps foreign exchange gains.
Foreign shareholding, which stood at 20.6% as at the end of June 2023, remained unchanged in July despite the net inflow of some RM1.41bil. For July, the total market capitalisation of foreign-owned shareholdings improved by 5.2% month-on-month to RM361bil, in line with the increase of the total market capitalisation of Bursa Malaysia, which rose by a similar quantum to RM1.757 trillion from RM1.669 trillion as at end of June 2023.
Until and unless the Fed turns dovish and China stops cutting its benchmark interest rate, the ringgit is likely to remain under pressure and hence the capital market inflows seen in the past few months will likely reverse. It is trying times for BNM. To hold rates or otherwise? If they raise OPR, it may prove useful for foreign fund inflows and exchange rate but GDP growth will be impacted downward. Why? Some businesses may not survive with another rate increase, especially those that cannot pass on their costs to consumers. Adjustments have to be made in measured steps so that private sector performance and domestic consumption are not unduly affected.
Reference:
Is the tide turning? Pankaj C. Kumar, The Star, 26 August 2023
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