Asia Rates: Headwinds on multiple fronts

Multiple headwinds
Group Research, Duncan Tan27 Sep 2022
    Photo credit: Unsplash Photo

    Recent days have seen the external macro environment turn much more perilous for Asia rates to navigate, with headwinds intensifying on multiple fronts. Post the more hawkish-than-expected FOMC Summary of Economic Projections on Thursday, announced fiscal stimulus in the UK on Friday has led to a massive sell-off in GBP rates that has spilled over onto USD and EUR rates. Russia-Ukraine war has also escalated with Russia mobilizing troops and staging referendums (for annexation), raising the risk that energy supply risk premium could re-widen and prices rebound. News of a delay in EU nations reaching an accord on Russian oil price caps could also see EU growth worries re-intensify.

    CNY Rates - IRS and CGB yields are breaking out (slightly) of their previously tight ranges. Ultimately, the pull of much higher global rates in September is exerting too large an upward pull. There are also signs of liquidity tightness around September quarter-end and PBOC has been net injecting liquidity via OMOs (using 14D reverse repos as well) to ease funding conditions. Yesterday, PBOC announced a hike in risk-reserve requirement for forward sales from 0 to 20%, starting 28 Sep. Evidently, the intention is to make it more expensive to short RMB via onshore fx forwards. 12m onshore forward points fell around 90pips in response. Offshore forward points rose around 50pips on expected migration of some forward sales positions to the offshore market, causing the points differential with onshore to widen further.

    INR Rates - Banking liquidity has been steadily tightening since 2Q and are now at levels tighter than pre-pandemic (early 2020), resulting in elevated ON Call rates over the second half of Sep. OIS rates have risen to around 7%, much higher than our previously expected range of 6.1-6.7%. We feel there could be opportunities to receive in the coming weeks. GBI-EM decision can be expected within the next 2-3 weeks. Long bonds pay swap trades have already done very well in recent weeks on inclusion expectations. Unless one is highly confident of a positive inclusion outcome, it may be prudent now to start unwinding some of those long bonds pay swap trades.

    IDR Rates - There doesn't seem to be news on the target size for today's scheduled conventional bond auction. Considering the volatility in global rates, incoming bids are likely to be unfavourable and thus, issuance size is likely to be smaller than the last couple of conventional auctions. In any case, fiscal position appears to be quite comfortable with January-August budget balance in surplus and government cash balances also quite healthy. Therefore, there is little pressure to issue under volatile market conditions. 5Y-10Y IndoGB yield spread re-steepened 5bps yesterday. In the near term, flattening pressures on the back of Operation Twist expectations are likely to give way to steepening pressures driven by risk aversion in global markets.

    KRW Rates - IRS and KTB yields rose an outsized 20-35bps yesterday. KRW rates have been a regional outlier, displaying much higher beta to surging US/core rates. Compared to regional rates markets, KRW FX's larger pace of depreciation argue for larger passthroughs onto Korea inflation and larger rate repricing. BOK's recent comments that it would extend its hike cycle alongside the US Fed or if Korea inflation stays above 5% are also supporting market expectations that terminal policy rates would rise to as high as the US (~4.5%). Our economist is forecasting 3.25% terminal policy rates for BOK, and as such, current 4.3-4.6% IRS rates certainly look excessively high to us. However, the uptrend in USD and KRW rates is quite persistent and thus, we prefer not to fight against market momentum, at least not now.

    Duncan Tan

    Rates Strategist - Asia

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