Asia Local Bonds’ Unheeded Unstable Equilibrium
The latest edition of the Asian Development Banks’s local currency bond publication, covering nine emerging markets for the full first quarter through May, cited greater stability with reduced spreads and foreign capital inflows as it cautioned about immediate global liquidity and cyber-attack risks. It noted an issuance slowdown from China in particular on its deleveraging campaign, with the mainland accounting for 70% of the $10.5 trillion government and corporate instruments outstanding. Indonesia in contrast experienced an overseas ownership leap to almost 40% of the total with a Standard & Poor’s ratings upgrade. On the two decade anniversary of the crisis which launched the Asia Bond Market Initiative with the Bank’s online monitoring and regular technical assistance, the reference also looked at the 2008 and 2013 Taper Tantrum spasms to examine the empirical record of domestic bond market deepening. The evidence pointed to less exposure to currency and maturity mismatch, but did not rule out future troubles on economic, monetary and business cycle turns which could also deflate this traditional “spare tire” supplementing bank loans and stock markets.
The ADB noted that gradual monetary policy normalization in the US, EU and Japan could “impinge” on East Asia’s financial markets. The Federal Reserve has ended quantitative easing and nudged interest rates marginally, and may begin to unwind the $4 trillion portfolio of Treasury, mortgage-backed and agency securities bought for commercial fixed income support the past decade. This rolling off is designed as a multi-year process implying that short-term Asian spillover should be “manageable,” but leverage has accumulated over a prolonged loose money period that could pose danger especially if the Eurozone also pares bond purchases. Global GDP growth forecasts have picked up, with developing Asia to expand 5.7% this year and next, but long-term yields have started to rise and investors have only recently “rediscovered” emerging market assets with fleeting confidence. Moody’s downgraded China’s sovereign rating from Aa3 to A1 at the same time, and continued US rate lifts will “adversely affect” heavy borrower company balance sheets in particular. Yields could spike and trading volumes sink as in 2013, and the consecutive Bangladesh central bank and Wanna Cry cyber- crimes in 2016 and 2017 revealed additional systemic weaknesses across banks and capital market intermediaries compromising safe-asset transactions, according to the review.
First quarter bond market growth was only 1% from 2.5% in the previous one, with China’s local government and corporate placement the main drags. By comparison, Korea’s number two near $2 trillion market was up 1.5% on Treasury bond front-loading for budget stimulus. Thailand and Malaysia each rose 3%, with the latter’s Islamic-style sukuk over half the total. Hong Kong and Singapore were roughly tied at the $250 billion activity range, while Indonesia’s surged 4.5% in the period to close to $175 billion. The Philippines and Vietnam had respective $100 billion and $45 billion totals as the smallest in the region. The annual growth rate was 13% for the quarter, with the government-corporate split at 65%-35% and local currency bonds approaching 70% of GDP.
Foreign ownership strengthened everywhere outside Malaysia, where the share dropped 6 points to 25%, through March, although the trend there also stabilized in April with resumed capital inflows. Investors remain wary after the central bank’s surprise ban on non-deliverable ringgit forwards to hedge positions, and the continuing drip from the 1MDB fund scandal with a repayment to Abu Dhabi creditors past the due date. Thailand’s international participation hit 15% on opposite news as a healthy current account surplus and reserves buoyed sentiment despite lingering political stalemate, as ousted Prime Minister Yingluck Shinawatra prepared to face trial for alleged rice subsidy abuse. Cross-border issuance within East Asia was a paltry $2.3 billion for the quarter, led by China, followed by Korea, Malaysia and Singapore, and a fraction of the $105 billion G-3 currency amount from January-April on good worldwide appetite. Inflation and interest rates were largely steady through May, as countries tweaked laws and regulations to solidify the bond market ballast shown by the ADB’s statistical regressions to offset exchange rate depreciation pressure. China and Thailand announced new rules for low-grade and unrated bonds, and Malaysia and Vietnam authorized short-selling, but after 15 years local bond development is in search of a long-haul catalyst that can apply with the same sense of crisis urgency to overcome potentially imminent global bond bruising.
