Bond Investors in Indonesia Refuse to Be Rattled

(Bloomberg) -- If foreign investors in Indonesian bonds are worried about the central bank’s foray into debt monetization and the question marks over its independence, there are only muted signs so far.

While the rupiah has fallen following news of a draft bill giving the government more control over the central bank, weekly foreign inflows into the nation’s debt climbed to the highest since June. Likewise, the spread between short- and longer-dated non-deliverable forwards -- seen as a gauge of offshore sentiment -- is still well below levels seen during the virus turmoil earlier this year.

Finance Minister Sri Mulyani Indrawati sought to ease concern over the draft parliamentary bill last Friday, saying monetary policy will stay independent and the government’s focus is on improving financial regulation.

“The recent uncertainty over the parliament bill relating to the central bank act will drag more on rupiah sentiment than Indonesian bonds,” said Edward Ng, a fund manager in Singapore at Nikko Asset Management Asia Ltd., which oversaw $236 billion at the end of June. Still, “more explicit action such as parliamentary dismissal of the entire bill or amendments to it, could be required to fully alleviate the market’s lingering concern,” he said.

The stance of foreign investors is particularly crucial for Indonesia right now as the country raises funds to counter the coronavirus that has pushed Southeast Asia’s largest economy into its first contraction in more than 20 years. Virus cases jumped by a record Thursday as the capital prepared to return to tougher movement restrictions.

Mixed Signals

In addition to the questions over Bank Indonesia’s independence, the other big concern for foreign investors is over how long the central bank will extend its debt-monetization program, under which it directly purchases government securities.

Officials have been giving out mixed signals. President Joko Widodo said on Sept. 1 the “burden sharing” program may be extended into 2021 and beyond if economic growth falls short of target. A few days later, Indrawati said debt monetization was a one-off event, echoing comments made by Bank Indonesia Governor Perry Warjiyo in August.

“The odds of debt-monetization extending into 2021 or beyond are fifty-fifty,” said Chang Wei Liang, a macro strategist at DBS Bank Ltd. in Singapore. “Much is contingent on how quickly flows return to emerging-market assets. 2021 could see global growth recovering as the pandemic impact fades out. This could stoke foreign demand for rupiah bonds, which reduces the need for Bank Indonesia support in debt financing.”

The spread between one-month and 12-month rupiah NDFs has largely hovered between 600 to 650 basis points since the end of August. If global investors had been alarmed about deteriorating financial conditions, rising 12-month forwards would have pushed the spread a lot wider. Inflows into Indonesian bonds climbed to $329 million for the week ending Sept. 4.

For now at least, offshore investors appear to be comfortable bearing with the risk of continued debt monetization in order to take advantage of the attractive qualities underlying Indonesian bonds: muted domestic inflation, attractive hedging costs and highest nominal yields in Asia.

What to Watch

• Bank Indonesia meets Thursday after keeping rates on hold at its August review. The central bank’s role in supporting growth may be increasingly in focus after Jakarta tightened social distancing measures this week
• Thailand will sell 10 billion baht ($319 million) of benchmark 10-year bonds (LB29DA), and 5 billion baht of 50-year debt (LB676A) on Wednesday
• Bangko Sentral ng Pilipinas will hold its maiden debt offering next Friday. The government said this week it will repay its 300 billion peso ($6.2 billion) debt to the central bank when the repurchase agreement ends this month

Note: Marcus Wong is an EM macro strategist who writes for Bloomberg. The observations he makes are his own and not intended as investment advice.

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