- Overview: With attractive yields, a strong domestic currency, a recent debt ratings upgrade and the revival of the global carry trade, Indonesia’s bond market was attractive in 2009, which helped the government to finance its budget deficit by issuing sovereign, Islamic and samurai bonds. Yields declined in 2009 due to monetary easing by the central bank and the faster-than-expected economic recovery. The yield curve steepened in June 2009 as rising inflationary pressures increased the expectation of monetary tightening in early 2010. In 2010, the government’s bond issuance is expected to decrease due to the smaller budget. But, with the expected economic recovery and attractive yields, Indonesia’s debt market will remain attractive to investors.
- Indonesia’s debt market offers higher returns compared to the equity market, thus attracting more foreign investment. Faster economic recovery, global liquidity, attractive yields, and the potential for further ratings upgrades will buoy the debt market in 2010. Monetary tightening starting in Q2 2010 will further widen Indonesia’s interest rate differentials with Japan and the U.S. will boost carry trade. Any slowdown in the U.S dollar-funded carry trade will cause only temporary volatility in the market as investors will soon switch to the yen-funded carry trade, given attractive IDR-JPY spreads and low currency volatility.
Ratings
- On March 12, 2010, Standard & Poor’s (S&P) raised Indonesia’s long-term foreign-currency rating to ‘BB’, the highest level in 12 years, from ‘BB-‘ with a positive outlook. S&P also affirmed Indonesia’s long-term local currency rating of ‘BB+’ and short-term foreign and local currency rating of ‘B.’ According to S&P’s statement, the upgrade was driven by improving government debt conditions and rising foreign exchange reserves, helping reduce Indonesia’s vulnerability to external shocks. S&P believes that Indonesia’s government debt ratio will continue to improve, given appropriate fiscal policies and double-digits nominal GDP growth. However, Indonesia's relatively high external debt, low per capita GDP, high level of corruption and lack of infrastructure constrain further rating upgrades. S&P expects continued economic and political reforms, as well as management of inflation and external debt in order to bring about any further ratings upgrades.
- On January 24, 2010, Fitch upgraded Indonesia’s long-term foreign and local-currency credit ratings from BB to BB+, the highest level since the 1997 financial crisis, with a stable outlook. BB+ is one level below investment grade. Fitch also upgraded the country ceiling to BBB- from BB+ and affirmed the short-term foreign currency rating at B. Ngiam Ai Ling, the director of Asian sovereigns at Fitch noted that Indonesia’s ratings upgrade was supported by the economy’s resilience to the global cues in 2008-09 thanks to “the improvement in public finances, a fundamental sovereign rating strength, and a material easing of external financing constraints.” The public debt to GDP ratio has shown a downward trend while the country’s foreign exchange reserves have increased. These factors will help Indonesia weather any abrupt capital outflows.
Current Performance
- Yield Curve: In March 2010, Indonesia’s yield curve turned steeper relative to January 2010 as inflation expectations rose. In March, the two-year bond yield was around 4.7% (January: 5.7%), the five-year bond yield was 8.1% (January: 8.2%), 10-year bond yield was 9.6% (January: 10.2%) and the 20-year bond yield was 10.8% (January: 10.9%).
- Foreign holding in Indonesia’s bond market increased in 2009 thanks to global risk appetite, attractive Indonesian yields, credit ratings upgrades and positive economic outlook. Relatively high interest rates, prospects of monetary tightening in 2010, an appreciating domestic currency and global liquidity make Indonesian bonds an attractive carry trade asset funded by USD and JPY. Indonesia’s debt market offers higher returns compared to the equity market, and attracted over US$11 billion in foreign investment in 2009. Large debt inflows have put upward pressure on the Indonesian currency and hurt export competitiveness vis-à-vis other Asian countries. However, Indonesia is unlikely to impose capital controls in the debt market as it needs to finance its fiscal deficit. However, some analysts argue that Indonesia might restrict foreign investment in the central bank’s one-month short-term bills (known as SBI) if capital inflows remain buoyant in 2010.
- The budget deficit is expected to reach 1.6% of GDP in 2010 from over 2.0% of GDP in 2009 (can someone please compare that with Singapore, Malaysia and Thailand??!!). Indonesia’s finance ministry announced that in order to finance the fiscal deficit, gross debt issuance would reach US$18.5 billion in 2010, 20% higher than in 2009. The government will diversify its funding sources by issuing local and foreign currency bonds, samurai bonds and sukuk bonds. The government plans to finance 75% of the bond issues via domestic sources and shift foreign investors into debt with maturity of over five years.
Bond Issuance
- Indonesia began 2010 with a successful sale of US$2 billion in U.S. dollar denominated bonds, maturing at 10 years with a yield of 6%. Indonesia's budget deficit will drop from 2009. Due to favorable growth prospects and macroeconomic stability, Indonesia's ratings have either been upgraded or remained stable, depending on the agency. To meet its funding needs, Indonesia will issue a range of bonds in 2010, including local currency, Islamic, samurai, and U.S. dollar denominated. A strong Indonesian rupiah will increase the attractiveness of local currency bonds while expected increases in inflation in mid-2010 will steepen the yield curve.
- On January 13, 2010, Bloomberg reported that Indonesia sold US$2 billion in U.S. dollar bonds with 10-year maturities at 6% yield. Indonesia had planned US$4 billion in sales but scrapped plans for 30-year bond issues as investor appetite for emerging market debt waned slightly in the recent weeks.
- Corporate bond sales are up more three times from the same period in 2009 as investors are seeking higher yielding assets and infrastructure companies look to expand to meet plans to double spending on infrastructure this year. Poor infrastructure continues to be cited by analysts and investors as one of the key impediments to stronger growth in Indonesia. PT Macquarie Securities Indonesia is quoted in estimating that Indonesia could reach growth rates of 8-9% with the proper investment in power and roads.
Outlook
- Economist Jahanna Chua at Citigroup said in a March 12, 2010 report titled “S&P Finally Upgrades: Outlook Positive” that, with strong and improving fiscal and external liquidity positions, Indonesia’s ratings might upgraded to high double B in 2010 and Indonesia could become investment grade by 2011-12.
- Sovereign Analyst Aninda Mitra at Moody’s said that “ongoing flexibility in the economic policy fame work” and robust economic recovery backed by limited economic openness, a well diversified economy, low leverage and a large domestic consumption base have helped improve Indonesia’s debt ratings. Implementation of structural reforms will sustain Indonesia’s credit ratings.
- The JCI's improvement has been led by reduced global risk aversion and capital inflows, Indonesia's superior economic performance relative to other ASEAN countries and abating political uncertainty after parliamentary and presidential elections in April and July 2009, respectively. Positive economic growth in Q1 and Q2 2009 based on robust domestic demand improved investors' risk appetite, bringing them back to the market.
- While strengthening commodity prices will be an upside for the stock market ahead, the revival of global risk aversion and capital outflows, reduction in capital expenditure and greater-than-expected slowdown in GDP growth are risks.
- In 2008, the market was hit by global risk aversion and capital outflows, commodity correction and sluggish growth as a result of the global recession. This led to significant government intervention. In late 2008, the government broadened the limit for firms to buy back shares from 10% to 20% of their paid-up capital, with government funding of US$420 million. Firms no longer required shareholder approval to do so. The central bank kept the option of conducting open-market operations or letting regulators halt trading if the index falls below a certain level.
- Credit Suisse forecasts Indonesia’s stock market will continue to surge 32% in 2010 on the back of companies' strong balance sheets and high economic growth. Companies are raising debts to expand their business while the economy is strong. However, the central bank’s monetary tightening policy will be a risk to Indonesia’s stock market in 2010, and a short-term correction is expected before it rebounds.
- The Indonesian stock market is still attractive to international funds. Political stabilization has improved investor sentiment, resulting in stronger foreign investment inflows. The country's large population has allowed for robust domestic consumption, reducing Indonesia's dependence on global trade. The government's US$7.2 billion stimulus package and promising economic policies will continue to attract foreign investment.
- The rupiah's appreciation in 2009 has been due to a number of factors: a stock market rally, improved bond yields, the revival of global risk appetite, relatively robust economic growth, positive election results, the central bank's monetary easing policy, the revival of the carry trade, an upgraded Moody's rating, a trade surplus, USD weakness and agreements for bilateral and multilateral currency swaps.
- The central bank has been intervening in the FX market to ease the external debt burden and contain currency appreciation as exports continue to contract. Intervention will continue as long as inflation is subdued to allow the central bank to build up reserves. In 2010, the central bank may allow the currency to appreciate to contain import inflation, but this will largely depend on the strength of the export recovery and the recovery in global oil and commodity prices.
- According to Milan Zavadjil, an IMF senior resident representative, the rupiah is not overvalued. Given Indonesia's current account surplus and robust economic growth, the rupiah is in the line with fundamentals.
- EIU: The revival of global interest in the carry trade, combined with Indonesia's stable political situation and strong economic growth amid the global economic downturn, has boosted investor sentiment regarding Indonesia'a asset markets and caused the rupiah to appreciate.
p/s photos: Bianca Bai Xin Hui
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