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Chap09_MAL

Chap09_MAL

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bond markets
bond markets

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Published by: owltbig on Dec 21, 2010
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360
Government Bond Market Development in Asia
9Malaysia
Chok Kwee Bee and Teng Chean Choy
Executive Summary
Malaysias bond market is the second largest of the Asian develop-ing countries (ADCs) in this study, after the Republic of Koreas. However,in international terms, it is small, representing only about 55 percent of gross domestic product (GDP), and thus far having mainly expanded onaccount of privatization by the Government of major infrastructure projects.This is poor compared with 90 percent GDP in many developed countries.The reason is that the funding requirements of the economy andthe Malaysian corporate sector have generally been met by the bankingsector, as in other developing countries whose nancial sectors havematured faster than the nonnancial sectors.The Asian nancial crisis and its repercussions in 1997/98 showedonly too well the vulnerabilities of a system with large funding mis-matches, where long-term requirements have been met by short-termborrowings. This points to the need to develop an e¹cient bond marketto reduce heavy re ent in 1986 (caused by massive development fund-ing). The external debt position continued to rise in 1999, but the paceof increase moderated considerably.Originally, Malaysian Government Securities (MGS) were issued tomeet the investment needs of the Employees Provident und (EP), butwere extended in subsequent years to fund budget decits, in part re-ecting increasing public development expenditure. Satisfying these twoneeds drove public debt continuously upwards, with outstanding MGSrising to RM67.01 billion in 1998 and RM78.33 billion in 1999. Trad-ing volume in MGS averaged RM4.9 billion per month in 1999, whichis not very large compared with recent transactions in the Malaysianequities market.The corporate bond market, on the other hand, which involves theissuance of private debt securities (PDS) by the Malaysian corporatesector, really made its debut with the establishment of the NationalMortgage Corporation, Cagamas Berhad in December 1986. Cagamas
 
 Malaysia
361
was incorporated with the primary aim of developing a secondary mort-gage market to assist banking institutions in need of liquidity or fundingto nd renancing for their mortgage loans. Before the establishment of Cagamas, there were a few corporate bond issues, but they were smalland infrequent.However, given the increase in corporate credit risks in currentmarket conditions, with investors wary of corporate defaults, tradingvolumes for the MGS have been high, with the trading of listed corpo-rate bonds considerably reduced. There has also been a sharp fall in theissuance of PDS by the Malaysian corporate sector, exacerbated by re-duced investment spending and uncertain investor interest.Increasingly, development of the corporate bond market is recog-nized as the way forward for both business and investors. This marketwill play an important role in the next phase of Malaysias developmentin the next millennium, pointing to a need to develop a bond marketthat is e¹cient and has depth and breath.Essentially, a developed bond market will o¬er companies an al-ternative source of nancing, providing exibility for long-term projectsto be funded by long-term funds. It will also create an opportunity forMalaysian corporations to manage their capital structure more optimally.rom the investors viewpoint, bond issuance will be an alternativeform of investment, assist with diversication of opportunities, and helpto mobilize savings towards a more e¹cient allocation of resources.Hopefully, it will also lead to the development of a secondary marketthat allows bondholders to trade and make bond instruments marketableand liquid, similar to equity stocks.The secondary market for bonds in Malaysia is not as well devel-oped as the primary market. Not many issues are traded, and informationon daily volume and prices is not readily available as compared, forexample, with equity trading. The lack of information is mainly attribut-able to the fact that the secondary trading of Malaysian bonds is essentiallyundertaken over-the-counter (OTC) and not in an organized exchange,although a few corporate bonds are traded on the Kuala Lumpur Stock Exchange (KLSE).Until recently, inactivity in the secondary market has been due tolimited and irregular supply, with most issues being taken up by a cap-tive market. This may be resolved, however, with the recent increase ingovernment bond issues over corporate debt securitiesunderstandablein view of the Governments e¬orts to spur economic recovery, and be-cause the corporate sector in the aftermath of the Asian nancial crisishas had problems in meeting its debt obligations, or is in the midst of restructuring. There has also been an appetite for government securities
 
362
Government Bond Market Development in Asia
because institutional investors, wary of corporate credit risks, nd thempreferabledespite their lower yieldsin light of the certainty that therecan be no default in government securities.The increase in the supply of government bonds may result in amore reective yield curve, and it is important that they take on the roleof benchmarker. Benchmark securities should have a regular and pre-dictable issuance schedule with a whole spectrum of maturities, shouldbe actively traded, very liquid, and responsive to market conditions.While not risk-free, the risk should be stable, predictable and easilyassessable. Having a reliable benchmark, the corporate bond market wouldbe able to come out with an array of its own issues, with risk premiabased on how they rank against the government securities, and eventu-ally ourish.The investor base in the Malaysian bond market is mainly com-prised of banks and asset and pension funds, as certain institutionalinvestors are required by statute to invest a portion of their total fundsin government securities (designated as liquid assets). or example, provi-dent and pension funds are required to invest a minimum of 50 percentof their total investible funds in such securities. The largest of these isthe EP.This requirement has many advantages for the economy. It allowsxed-rate cheap fund-raising for the countrys development needs, andallows the Government to exibly structure the maturity prole of itsdebts to match the tenor of its nancing needs. It also gives the CentralBankBank Negara Malaysia (BNM)an e¬ective tool to manage thelevel of market liquidity, thereby inuencing and setting the level of interest rates.It provides a safety net in case of unexpected demands for liquid-ity, giving depositors some protection for their monies, increases condencein the banking institutions, and o¬ers a reasonable return on invest-ments over the average ination rate.However, it also results in a captive market for bonds, creatingarticial demand that distorts yields. These bonds are inevitably lockedup and held until maturity, especially by the pension funds, further in-hibiting the development of a secondary market. In the absence of ane¬ective hedging instrument, this passive portfolio management mayalso lead to a higher risk prole of the mandatory holders of the bonds.The current dominance of the nancial institutions and large pen-sion funds ignores the needs of retail investors in search of securelong-term investmentseven though the minimum denomination forgovernment bonds is set at RM1,000.00.

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