Baht bonds face heavy foreign selling

Within emerging market bonds, hard currency funds saw outflows of $2.6 billion, while local currency funds saw outflows of $2.4 billion, again record outflows. Note that this is the third week of heavy outflows from local currency bond funds, which Thailand is a subset of. 

Emerging local currency bond funds are not the only asset class affected. Developed market bond funds also saw massive outflows of $17.8 billion for the week ended June 26. Meanwhile, equity – developed and emerging – markets also experienced significant outflows of $13 billion for a similar period. 

 

When did this all start?

The turning point was Hilsenrath’s Wall Street Journal article of May 10 alluding to the Fed’s tapering of QE3, which prompted investors to rethink valuations across several asset classes, including equities, fixed income, emerging markets and commodities. Bernanke’s semi-annual testimony on May 22 hinted at QE3 tapering again and the Federal Open Market Committee meeting on June 19 affirmed these expectations. 

 

How vulnerable is the Thai bond market?

We see Thailand along with Indonesia as one of the most vulnerable markets in Asia to foreign selling. From January-April, Thailand saw massive inflows of $5.2 billion as Thailand was seen as safer than other AXJ markets amid Malaysia’s pending election, political tensions on the Korean Peninsula and rate-hike risks in Indonesia. After the Malaysian elections passed and the Bank of Korea turned dovish, some of the inflows began to be diverted to Malaysia and Korea in early May. Since the end of April, foreigners have sold around $2 billion from the Thai bond market, which was partly driven by concerns over capital controls and funds being diverted to other Asian markets anyway. Then the EM sell-off only served to exacerbate the foreign selling in Thai bonds. As a comparison, since the end of April, foreigners have sold $1.4 billion of Indonesian bonds, $1.2 billion of South African bonds and $5.2 billion of Turkish bonds. Meanwhile, Mexico and Hungary saw inflows of $4.1 billion and $367 million. 

 

What next?

Going forward, we see scope for further unwinding of the EM trade. This should impact several asset classes including emerging market local-currency bonds, which Thailand is a subset of. So even though valuations from a pure local standpoint may appear attractive, by looking at curve spreads versus the Bank of Thailand’s policy rate, inflation expectations and growth levels, foreigners may continue to sell Thai local government bonds if they face redemptions and the AUM of their portfolios is shrinking. 

 

_ Danny Suwanapruti is a senior rates strategist for Standard Chartered Bank based in Singapore