Indonesia’s local currency (LC) government bonds market is still considered very lucrative by foreign investors. In particular, investors are still attracted by the Indonesian market’s higher yields compared to the yields on the LC goverment bonds issued by other countries in Southeast Asia.
As of Sept. 10, Indonesia’s 10-year government bonds yield stood at 9.09 percent. This compares favorably to the yields in other Southeast Asian countries such as Singapore (2.85 percent), Malaysia (4.18 percent) and Thailand (3.03 percent). Indeed, this large difference in yields has been one of the main reasons why foreign investors are still interested in investing in Indonesia’s LC government bonds despite the rising market and currency risks.
But there is another reason why foreign investors find Indonesian bonds so enticing and that is because Indonesia’s LC government bonds market currently has higher average tenures in comparison to the bond markets in other Southeast Asian countries. We should remember that foreign investors are often attracted to long tenures (greater than 10 years) since they seek either a long-term investment or short-term capital gains from secondary trading. Either way, the issuance of long tenure sovereign bonds is likely to attract foreign investors. Indonesia’s LC goverment bonds market (SBN) is already very large with outstanding bonds reaching Rp 1,215 trillion (US$86.2 billion), based Asian Development Bank’s (ADB) data as of June, with more than 46 percent of them consisting of tenures of more than 10 years. Compared to the other bond markets in the region as of June, the proportion of Malaysia’s LC government bonds with tenures of more than 10 years stood at 19.29 percent, while comparable figures for Singapore and Thailand were 22.75 percent, as of March, and 27.55 percent, respectively.
The longer the tenure of a bond, the more volatile its yield. Thus, when a country’s LC government bonds market has a higher proportion of long tenures then the perception is that the bonds market is more volatile. In Indonesia’s case this is very true, since when compared to its regional peers — i.e. the countries previously mentioned — it turns out that Indonesia’s LC government bonds market has historically been more volatile.
Foreign investor holdings in Indonesia’s LC government bonds were recorded at Rp 528.4 trillion ($37.5 billion) or 37.7 percent of the total outstanding as of Sept. 9. The presence of foreign investors in the Indonesian LC government bonds market has never been this large, either in nominal terms or proportionally.
So will foreign interest in Indonesian bonds wane or remain strong?
Well, there are many reasons to believe that foreign investors still find Indonesian bonds attractive. Firstly, it should be remembered that foreign investor holdings in Indonesia’s LC government bonds have actually kept on increasing this year (up by Rp 67.4 trillion as of Sept. 9, despite the 15.1 percent depreciation in the rupiah/US dollar exchange rate from 12,388 per US dollar to Rp 14,262 per dollar in the same period). Exposure to Indonesia’s LC government bonds market in this period has already resulted in a loss of 1.55 percent from overall changes in bond yields and this is even without accounting for losses from changes in the exchange rate.
Second is the fact that volatility has been relatively high compared to that in the LC government bond markets of Indonesia’s regional peers. Foreign investors are currently the largest holders of LC government bonds in Indonesia with a 37.73 percent share, rivaled only by domestic banks who have a 29.1 percent share. Thus, it would not be that difficult for foreign investors to ‘shake up’ the bonds market even more if they wanted to.
Of course, behind every action there must be some rational reasoning. Fact number one is that Indonesia is set to potentially receive an upgrade to idBBB- from S&P ratings in the near future — possibly in 2016. If this transpires, then Indonesia will become a completely investment-grade market since the ratings agencies Moody’s and Fitch Ratings had already upgraded their ratings on Indonesia in late 2011. Fact number two is that despite the 58 percent depreciation of the rupiah relative to the US dollar since Indonesia received its first investment grade rating in 2011, neither the country’s rating nor its outlook have been downgraded by any of the international rating agencies. This signals that despite the doom and gloom that many have predicted, Indonesia’s macroeconomic fundamentals are still relatively strong, or at least holding up fairly well.
The strong presence of foreign investors in Indonesia’s LC goverment bonds market has also had many positives, most notable being the better trading liquidity in the secondary market. Liquidity here is measured by the turnover ratio — as calculated by dividing the total secondary trading by the total outstanding within a specific period of time — the norm is usually the last three months. The average turnover ratio since the beginning of 2015 stands at 62 percent, meaning that approximately 62 percent of all of Indonesia’s outstanding LC goverment bonds have been traded in the secondary market. A rough hypothesis would conclude that most of the trading is undertaken by foreign investors, since they are the largest holders of Indonesia’s LC government bonds.
In summary, weighing up all the considerations — both positive and negative — it is safe to conclude that the reasons why foreign investors maintain their presence in Indonesia’s LC government bonds market look to be justified. Hence, with Indonesia’s economic fundamentals still solid despite the recent headwinds coupled with the government’s strong commitment toward investing in infrastructure projects — which will need some long-term funding from bonds — foreign investors are likely to find Indonesia’s LC goverment bonds market attractive for some time to come.
____________________________
