Malaysia: Bank Negara turned marginally dovish
- We have lowered our full year inflation forecast to 1.7% as inflation continues to slip
- Rhetoric from the central bank has turned marginally dovish amid concerns regarding growth outlook
- Weaker growth outlook and rising inflation complicates monetary policy stance
- Policy direction will be data driven in the coming months
- A pre-emptive move by the central bank should not be discounted if economic data disappoints
The steep fall in inflation was largely driven by two factors – a slew of fiscal policies aimed at lowering the cost of living, including the zero rating of the Goods and Services Tax (GST), and a correction in oil prices in late 2018.
We expect inflation to bottom in 1H19 and to start rising from 2Q19 onwards. The increase will be even more pronouncedly in 2H19. Oil prices are likely to average about USD 70-75/bbl and the base effect from the fiscal policy changes will also dissipate by 2H19. Taking all into account, we now expect full year inflation to register 1.7% in 2019. More importantly, inflation is likely to stay range-bound between 2.5-3.0% in the second half. This means that if the Overnight Policy Rate (OPR) remains at 3.25%, real policy rate will still be less than 1% and overall monetary policy is still deemed to be accommodative.
In the most recent policy March meeting, Bank Negara (Malaysia) continues to keep the OPR at 3.25%. However, rhetoric has turned marginally dovish with more focus on the downside risks on growth resulting from the unresolved trade tensions, heightened uncertainties in the global and domestic environment, and prolonged weakness in the commodity-related sectors. Additionally, the inclusion of sentence “Recognising that there are downside risks in the economic and financial environment…”, on top of the usual concluding line that “the MPC will continue to monitor and assess the balance of risks surrounding the outlook for domestic growth and inflation”, does suggest policymakers’ rising worry on the growth outlook.
Indeed, overall GDP growth for 2019 is expected to register 4.5% in our opinion, well short of the government’s forecast of 4.9%. This could perhaps prompt policymakers to consider a slightly more accommodative monetary policy stance.
Market has responded to the slight change in language in the policy statement and the emerging concern on growth outlook. Onshore swap markets have re-priced from no change to one cut this year (to occur at July or September meetings, small chance of May meeting). There are currently no hike/cut priced for 2020 and 2021.
Bank Negara last cut policy rate by 25bps in Jul16. This is after two consecutive quarters of growth that averaged just 4%, and with inflation falling from 3.5% to 1.0% in that same period. The situation is slightly different this time. Growth in the first half of the year could disappoint but inflation will likely pick up sharply in 2H19. Monetary policy could be in the fix if that pans out.
We reckon that the central bank could be taking a “wait-and-see” approach. Notwithstanding the marginally dovish rhetoric, policy direction will be very much data driven in the coming months. While we are maintaining the view of a stable monetary policy with the OPR at 3.25% for the rest of the year, a pre-emptive move, e.g., a 25bps cut, by the central bank should not be discounted if economic data disappoints.
MGS/MGII: Possible bottoming of foreign ownership
Year-to-date, led largely by easing fiscal concerns and compressing of credit risk premium, Malaysian Government Securities (MGS) have rallied strongly (c1.7% in price for the 10Y tenor).
We note that 5Y credit default swap spreads on Malaysian bonds have fallen to historically low levels. Therefore, any further rally in MGS would likely have to be driven by lower global yields, pricing of more BNM cuts or the sustained return of foreign inflows.
Net foreign buying of MGS and MGII (Islamic bonds) in February 2019 was particularly large at MYR5.7bn. We think this could mark a bottoming of foreign ownership considering that Malaysian bonds are attractive assets to hold in the current carry environment and foreign asset managers are likely still quite underweight (from 2018’s outflows).
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