BII Weekly Bond Report - 12 Aug 14

Cautious by Widening CAD and Slowing Domestic Economy

GLOBAL MARKET UPDATE

UST 10-yr hits the lowest since Jun 2013 fueled by geopolitical concerns. Rising tension U.S. new airstrikes to Iraq, increasing tension between Israel and Palestine and Russian trade ban has resulted in current flight to quality in the US bond market as yield touched below 2.40% last week or the lowest since Jun 2013. The strengthening of UST 10-yr was mostly caused by the arising geopolitical concern. UST 10-yr yield would eventually rise as these geopolitical eases. Investors would also start worrying about what might occur once the QE taper completes and FFR increase next year.

ECB halts its interest rate at 0.15% amid Euro zone disinflation.

ECB announced to halt their interest rate at 0.15% last week despite a week earlier Eurostat published Euro zone July CPI at 0.4% YoY after 0.5% YoY in June. TLTRO’s which was introduced couple of months earlier will be initially conducted next month and December 2014. TLTRO’s is estimated to inject around EUR240bn into the Euro zone economy. The impact probably will take another 3-6 months, specifically on inflation and credit growth towards more appropriate segments of the real economy.

Japan June current account hits deficit or first time since Jan 2014. Japan June current account came in at a deficit of ¥399,1 bn surpasses economist consensus of ¥325.6 bn deficit. Primary income account which reflects how much Japan earns from its foreign investments dropped to ¥418.2 bn in June (vs 1,478 bn in May) as dividends from FDI declines. BoJ has also decided to keeps their monetary policy unchanged.

Astonishing China July trade balance surplus of US$47.3 bn. China exports jumped by 14.5% YoY in July (vs 7.2% YoY in June) while imports fell by 1.6% YoY (vs 5.5% YoY gain in June) resulting in China July trade balance to a record high of US$47.3 bn. The result came in higher compared to economist consensus of US$27.4 bn.

DOMESTIC MARKET UPDATE

GDP continue to slow down in 2Q 14 to 5.12% (vs 5.22% in 1Q 14). Indonesia real GDP grew 5.12% YoY in 2Q 14 compared to 5.22% YoY in 1Q 14. Based on expenditure approach, household consumption remains solid despite a slower growth of 5.59% YoY in 2Q 14 compared to 5.61% YoY in 1Q 14 while government consumption shrank by 0.71% YoY in 2Q 14 from 3.58% YoY in 1Q 14 mainly due to postponement of 13th salary disbursements until Q3 2014 along with decreased spending by government ministries and institutions. Furthermore, investment growth also slowed in 2Q 14 to 4.23% YoY from 5.14% in 1Q 14 with mechanical and equipment investment and others investment contracted 1.14% YoY and 2.99% respectively in 2Q 14 as a result of weakening USDIDR from Rp11,404 per USD at the end of 1Q 14 to Rp11,969 per USD at the end of 2Q 14. However, building investment which contribute 73.2% to the investment segment still strengthened to 6.59% YoY in 2Q 14 from 6.54% YoY in 1Q 14. Overall, external sector performance remained weak, undermined by exports of coal and minerals as coal prices remains weak (US$70.35 in 2Q 14 vs US$73.05 in 1Q 14) and government’s raw mineral export ban.

Based on the supply side, manufacturing and trade segment which is the two largest contributors to the GDP by 25.34% and 18.05% respectively grew slower as domestic demand weakened amid general election and Ramadan festival preparation. Moreover, transportation and communication sector growth weakened to single digit at 9.53% YoY in 2Q 14 from 10.21% YoY in 1Q 14 as a result of squeezing business margin from the sector amid tighter competition between the players within the sector. Our economist revised down their expectation against Indonesia’s economic growth for this year at around 5.20% from 5.40% attributable to slowing exports and investments growth.

Normalized CPI, while 1H 14 trade balance successfully narrowed post tighter on the fiscal and monetary policies implementation. July 2014 headline CPI came in at 4.53% y-o-y or 0.93% m-o-m. The yearly inflationary pressure eases due to vanished impact of the June 2013 fuel price hike. Monthly inflationary pressure was in line with consensus expectation that monthly inflation would increase with Indonesia celebrating the Ramadan festival. However, this monthly inflation remained in control or below 1%. Yearly volatile foods and core inflation were successfully reined by the government amid high consumers’ demand to prepare Eid Al Fitr festivity.

Indonesia’s June trade balance also only booked US$305 mn of trade deficit amid heightening domestic demand to prepare Ramadan festival. Indonesia’s June export surged by 4.00% m-o-m in June 2014 to US$15.42 bn compared to May 2013 export value. Oil and gas segment contributed the most to the overall export growth as it increased by 17.45% MoM (1.24% YoY) to US$2.79 bn. On the other hand, higher non-oil and gas import has triggered Indonesia import to surge by 6.44% m-o-m to US$15.72 bn in June 2014. Main contributors for this increase are higher raw material and capital goods imports, such as iron/steel goods (28.59% MoM), iron/steel (20.80% MoM), machinery/mechanical appliance (18.22% MoM), and automobiles and its parts (16.01% MoM). Impact of fiscal and monetary policies tightening last year has started to show its result as 1H 14 trade’s performances successfully narrowed to US$1.14 mn compared to 1H 13 trade deficit of US$3.31 mn.

Looking forward, we believe the central bank would still maintain its reference rate at 7.50% by the end of this year to keep export competitiveness for supporting Indonesia economic growth remaining robust.

Sukuk auction will be conducted this Tuesday with indicative target issuance of Rp1.5 tn. DMO will conduct its weekly auction this week with three series to be auctioned this week are SPN-S13022015 (Coupon: discounted; Maturity: 13 Feb 2015), PBS005 (Coupon: 6.750%; Maturity: 15 Apr 2043) and PBS006 (Coupon: 8.250%; Maturity: 15 Sep 2020). Our view on the indicative yield for the auction are as follows PBS005 (range: 9.240% – 9.340%) and PBS006 (range: 8.200% – 8.300%). Till last week, Indonesian government has raised approx. Rp41.51 tn worth of debt through bond auction in 3Q 14 which represents 43.23% of the 3Q 2014 year target of Rp96 tn. On total, Indonesian government has raised approx. Rp306.24 tn worth of debt through domestic and global issuance which represent 71.18% of this year target of Rp430.2 tn.

Further this week, we see that buying on dips remains the best option as we believe that bond market would continue booking losses this week due to global negative sentiment rather than upcoming domestic data release as Indonesian official has passed the message couple of week in advance that Current Account would be experiencing a deficit of 4.00% of GDP in 2Q 14. Having to say that, our economist sees that central bank would halt their reference rate at 7.50% to continue ensuring current account to reach a more healthy level while current account would reach deficit of 4.08% of GDP due to slower exports, escalating oil and gas imports in 2Q due to Ramadan festival preparation and dividend and debt payment. The widening CA deficit will be offset by a larger surplus of capital and financial account thus resulting in a positive 2Q 14 Balance of Payment (BoP).

BOND MARKET REVIEW

Indonesia Bond market recorded the worst weekly performance within the region. Local currency (LCY) bond market lost the most within a week compared to its peer within the region. Global geopolitical concern such as U.S. new airstrikes to Iraq, increasing tension between Israel and Palestine and Russian trade ban had influenced the weakness of Indonesia bond market. Nonetheless, domestic economy data release which were weaker than economist consensus had added an extra fuel to the weakening of the LCY bond market last week. Foreign player were seen on the sell side within the week resulting in the LCY bond market booking losses for 5 consecutive days after a full week Eid Al Fitri holiday while central bank were seen intervening the market to avoid a deeper weakening during Friday. Amid foreigner being on the sell side last week, foreigner bought Rp1,050 bn between 4 – 6 Aug while banking sector purchased Rp5,600 bn within the same period. Foreign ownership continues to create new high as foreign ownership stood at Rp420 tn as of 8 Aug or 36.31% of total outstanding Indonesia LCY government tradable bond. Indonesia bond market lost 6.74points (0.98%) within a week followed by India (-0.66%) and Philippines bond market (-0.28%). Singapore bond market performed the best last week as the bond market booked gain by 0.86% followed by Thailand (+0.56%), South Korea (+0.41%), Taiwan (+0.41%), Malaysia (+0.20%) and China bond market (+0.08%).

Yield curve bear flattened on IDR and USD segments. On the IDR segment, FR0027 (1-yr benchmark series) yield moved the highest as the bond shifted upwards to 7.165% (+32.8bps). Yield spread between 10-yr benchmark series and 2-yr notes slightly narrowed to 63.22bps compared to 64.79bps on July 25^th (average YTD yield spread of 80.03bps). On the USD segment, yield curve bull flattened with RI0144 (30-yr) yield shifted upward the most as yield moved higher by 0.16 points to 1.312%. Yield spread between 10-yr and 2-yr USD Indonesia sovereign notes narrows to 230.41bps (vs average YTD yield spread of 320.8bps) compared to 281.38bps on July 25^th as the 2-yr Indonesia USD bond yield significantly rose to 2.107% from 1.383%.

Heavy government trading volume while corporate segment booked a rather thin volume. Total trading volume at secondary market for the government segment was noted amounting Rp54.15 tn with average trading volume per day of Rp10.83 tn (vs average per day (Jan – Jun) trading volume of Rp11.18 tn) during last week and was relatively illiquid with 411x transaction frequency on average (vs average transaction frequency per day (Jan – Jun) of 626x) with FR0068 (20-yr benchmark series) and FR0070 (10-yr benchmark series) as the most actively traded with total volume reported amounting Rp13.91 tn and Rp9.09 tn respectively. FR0068 closed at 95.127 yielding 8.904% while FR0070 closed at 100.517 yielding 8.294%. Government bond with tenor between 15 till 20 years dominates Government bond trading last week.

On the credit segment, total trading volume was noted thin amounting Rp1,129 bn during last week resulting in average trading volume per day of Rp225.8 bn (vs average per day (Jan – Jun) trading volume of Rp677 bn) and was relatively illiquid with 46x transaction frequency on average (vs average transaction frequency per day (Jan – Jun) of 88x). SSIA01B (Surya Semesta Internusa I year 2012; B serial bond; Maturity date: 6 Nov 2017; Rating: _idA) was the most actively traded bond with total volume reported amounting Rp200 bn. Corporate bond with A rating dominate the credit segment last week.