Wednesday, April 22, 2009
Why Malaysia's Bond Market Is So Dead
We have a bond market but its so boring and rarely much activity can be seen in the secondary market. By and large the bond market is dominated by government linked institutions issuing those papers. The implicit guarantee is that these government back entities will get a backstop from the government (assume its a bit like Fannie & Freddie in the US). Unless you are very highly rated by ratings agencies, you would not think of tapping the bond market. The demand for even companies debt whose ratings are a couple of notches lower dries up very fast.
The market is dead because Malaysia is an emerging market, hence the institutions that are active in that area are very limited, mainly government related pension funds and insurance firms. Both demand solid companies' debt with coupon rates a touch above prevailing interest rates. Their demand for higher interest rate bonds drops enormously because they are either forbidden by their trustee/ investing guidelines of touching those not so prime bonds.
Foreign bond funds will shun local papers because of the size and a desperate lack of liquidity. How to get in and out, most will hold till maturity.Then you have to worry of the number of issuers, just look at our listed entities, once you shave off the top 100 companies in market cap, the size and market cap of the other companies start to get very small. If your market cap is only RM300m, how much debt do you think you can do? Thats just the listed entities, our unlisted entities would be mainly made up of government linked projects and that's that.
Then you have to worry about the buyers, which I have said consist of mainly insurance companies and pension funds. I guess if each of local fund management company were to introduce a high yield local bond fund (say RM500m each), then maybe we have a decent start in having the players to buy and sell the high yield papers. Right now, there aren't many. Most of the players are also restricted by the investment guidelines on what type of securities or papers that they can buy - that has to evolve.
Who doesn't want to borrow money, there are plenty of companies with not so stellar ratings that want to borrow. Investment banks are not interested to bring them to the market even if they were to offer 12% coupon - no buyers, its an area not many want to even be the leader and start the market. Technically some private investors would be keen to buy, but our structure and safeguards are not in place to protect them yet.
Now the government is trying to launch a bond-guarantee agency to jump start the bond market. Decent idea but probably won't work for the reasons I have cited - size and liquidity. Its not the guarantee part or the fear of the issuer collapsing, if the bond pays 10% or 15%, the buyer know that there are corresponding risks attached to it - in the US its called junk bonds. Its the depth, size and liquidity that matters. How many companies are issuing in the corporate bond markets in the US, they are in the thousands, from double A to single A to even double B, all with increasingly enticing coupon rates. We just don't have the sufficient numbers to make it an enticing market.
Lastly, listed companies have been enjoying very cheap funding via the bond/warrants market. It allows for the warrant premium to reduce the overall funding cost for these companies. No one is that keen to tap the pure bond market. That is why we mostly see "unlisted entities" (usually government linked) doing that as they cannot go via the bond/warrant market for listed entities.
Hence the bond guarantee agency is the least of our problems.
The government's plan to set up a bond-guarantee agency is very crucial to jump start the currently "dead" bond market in Malaysia, an expert said.
Professor Edward Altman, a specialist in credit-risk analysis and bankruptcy prediction, said the Financial Guarantee Institution (FGI), to be set up under Bank Malaysia, will help build investors' confidence and thaw the seized-up credit market following the global financial crisis. The FGI, which has been considered by the government for some 10 years, would help companies raise RM15 billion by providing a government guarantee to the bond.
"I think (the FGI) could be a very positive thing for your financial market. As long as the premiums that companies pay to tap this insurance are reasonable," Altman told reporters on the sideline of a one-day seminar he gave to Rating Agency Malaysia Bhd's clients in Kuala Lumpur yesterday.
Effective rating agencies are also important to monitor the credit quality after the papers are issued, he said, especially since Malaysia does not have an active secondary market. Malaysia had enjoyed good growth in the past decade or so, Altman said, but the country must make sure that companies have wider access to funding to sustain the economic expansion. While the US market was perhaps a tad too loose with junk bond, or those rated BB+ and below, Malaysian investors have gone to the other extreme of being conservative, he said.
There are no high-yield junk bond markets in Malaysia, indeed very few firms even at the investment grade of triple B or single A-level have been able to issue bonds here because investors do not have the appetite for high-risk papers. Investors do have the appetite, if they are well compensated with the right premium/spread. The global credit crunch, which erupted last year, has caused the market for corporate bond to dry up, and there's almost no issuance except for the top-rated companies.
"When you have a bond market that is restricted to only the highest credit quality, and often, if the bond has to have collateral just like loans, you'd restrict the amount of credit dramatically," Altman, who is attached with the New York University said. The lack of a confidence-building mechanism may be part of the issue, and the discussions on the need of a credit guarantee agency have gone on for years until the FGI plan was firmed up recently, he said.
p/s photos: Kae Chollada