Better sentiment towards Malaysia?

Published: Saturday November 23, 2013 MYT 12:00:00 AM 

Updated: Saturday November 23, 2013 MYT 12:54:46 PM

BY CECILIA KOK

THE “Big Three” credit rating agencies – Standard & Poor’s (S&P), Moody’s and Fitch – may have suffered a serious dent to their credibility in recent years, especially after the outbreak of the 2008/09 global financial crisis; but, like it or not, this small group of international organisations will continue to play an important role in the global debt market.

Their assessments of the creditworthiness of corporations and governments continue to be taken seriously by investors, and their decisions could affect the cost of borrowing, that is, the interest rate that corporations or governments will have to pay investors for buying the bonds that they issue.

It is estimated that the Big-3 credit rating agencies currently command a collective global market share of 95% by revenue, with S&P and Moody’s leading with a market share of 40% each, and Fitch with around 15%.

As it stands, all the three key rating agencies now have differing outlooks for Malaysia.

Moody’s has a “positive” outlook for the country following a revision over the week, while S&P has the outlook maintained at “stable” and Fitch at “negative”.

Positive outlook

In what seems to be a pat on the back for Malaysia, Moody’s recently upgraded its sovereign rating outlook for the country from “stable” to “positive”. The rating agency pointed to improving prospects for fiscal consolidation and reform as well as continued economic stability amid an increasingly challenging external environment as the rationale for changing its outlook for Malaysia.

According to CIMB Investment Bank Bhd chief economist Lee Heng Guie, Moody’s “positive” credit outlook for Malaysia was also partly enhanced by the agency’s refined sovereign bond-rating methodology, which assigns greater weight to economic performance, price stability and the external payment positions.

Over the week, Moody’s also affirmed Malaysia’s government bond and issuer ratings at A3, and the country’s long-term foreign currency bond ceiling at A1 and long-term foreign currency bank deposit ceiling at A3.

According to economists, Moody’s rating action for Malaysia is a welcomed development for the country.

“It came as an upside surprise, especially after Fitch downgraded the outlook on Malaysia’s credit rating to ‘negative’ from ‘stable’ in July,” Affin Investment Bank chief economist Alan Tan highlights in his report.

“We believe the Government remains committed to the stance of reducing its budget deficit in the years ahead,” Tan argues, adding that he believes other international rating agencies, namely, S&P and Fitch, will then likely place Malaysia’s sovereign rating outlook in a more favourable position in the near term.

CIMB’s Lee concurs, saying in his report, “We believe Moody’s rating outlook upgrade is a positive start for Malaysia’s credit profile as it underscores its confidence in the Government’s credibility to attain fiscal sustainability and improve debt dynamics over the medium term.

“We expect Malaysia’s sovereign rating to be rerated favourably if bold fiscal reforms are successfully implemented,” Lee says.

It is interesting to note that although Moody’s has recently upgraded the credit outlook for Malaysia to “positive”, the rating agency seems to remain concerned about the risk of a significant deterioration in Malaysia’s debt dynamics, which could arise from the Government’s inability to successfully implement fiscal reforms or adverse shocks to the country’s funding conditions.

Moody’s also notes that there are still constraints to Malaysia’s creditworthiness, and these include limited transparency with regard to the scale of non-financial public sector indebtedness and the increasing use of off-budget financing vehicles and rising household debt.

Moody’s has warned in its statement that if there were a significant deterioration in Malaysia’s debt dynamics, it would revise its “positive” outlook for the country down to “stable” or even “negative”. A significant improvement in Malaysia’s debt dynamics, on the other hand, would trigger an upgrade in ratings for its sovereign bonds.

It may take time to convince sceptics.

But the Government has maintained that it is on the right track to reducing its fiscal deficit to 3.5% of the country’s gross domestic product (GDP) next year from 4% of GDP in 2013. And by 2015, the country’s fiscal deficit is expected to improve further to 3% of GDP.

The Government has also reiterated that the country would eliminate its fiscal deficit to achieve a balanced budget by 2020 - the year in which Malaysia is expected to join the ranks high-income countries.

That’s quite an encouraging news for a country that has been running on fiscal deficit for the last 15 years.

Bold measures

Many economists reckon that Budget 2014 marks the start of a turning point for Malaysia’s structural reform, as it contains bold (and somewhat unpopular) measures needed to put the country on a sustainable path. These include subsidy rationalisation and the widely anticipated goods and services tax, or GST.

And perhaps, we have Fitch to thank in part for this.

Although Fitch is the smallest of the Big-Three rating agencies, its downgrade of the rating outlook for Malaysia from “stable” to “negative” in July managed to draw much international attention and that put intense pressure on the Government and instil the sense of urgency to accelerate structural reforms.

It is interesting to recall how Prime Minister Datuk Seri Najib Tun Razak responded to Fitch’s rating action then: He promised to address those concerns in Budget 2014, and it has been proven true so far - at least on paper.

“Overall, Moody’s assessment remains consistent with our view that Malaysia’s reform momentum is headed in the right direction following a favourable budget and reduced political obstacles,” Euben Paracuelles, a Singapore-based economist at Nomura Holdings Inc, says.

According to Lee, the Malaysian Government has demonstrated a strong conviction to remedy the budget deficit and debt when it announced it would implement the GST by April 2015, along with the resumption of subsidy rationalisation.

But Lee notes, “More critically, the Government must successfully implement the fiscal reforms”.

While Moody’s is the first rating agency to upgrade its outlook for Malaysia following last month’s announcement of Budget 2014, S&P and Fitch have taken the “wait and see” approach.

Fitch, for one, says that it wants to see a track record of implementation of key reform measures before revising its outlook.

Regardless, Moody’s upgrade of its credit outlook for Malaysia bodes well for the country’s capital market and ringgit.

“We continue to see scope for a pickup in real money allocation into Malaysia following the Budget 2014 announcement,” Paracuelles reveals based on Nomura’s recent discussions with real money managers that were less optimistic about Malaysia before the Budget 2014 announcement.

“Moody’s change of outlook could prompt a further change in (investor) perception/allocation,” Paracuelles argues.

“Beyond this, other reasons to be more positive on ringgit include the improving current account surplus, the Government staggering its infrastructure projects, the stable political backdrop and ringgit’s attractive valuation,” he adds.

As it is, there are already several factors working in Malaysia’s favour. These include relatively strong economic growth rates, manageable and relatively low inflation as well as healthy balance of payments, while macro prudential measures such as property-cooling initiatives should contain the continued rise in household debt and tame property prices.

Data released last week showed that Malaysia’s GDP growth in the third quarter of 2013 had accelerated to 5% from 4.4% in the preceding quarter, thanks to strong domestic demand and gradual recovery of exports.

And with the country’s current account surplus widening to RM9.8bil in the third quarter from RM2.6bil in the second quarter, concerns over the risk of twin deficits for Malaysia seem to have been assuaged.

The headline inflation rate, as measured by the annual change in the Consumer Price Index, on the other hand, remained manageable at 2.2% in the third quarter compared with 1.8% in the preceding quarter.