Weekly Fixed Income Summary : August 06 – August 10, 2018

Breakout Inflation Amid Slowdown

Outlook. A much slower-than-expected GDP growth of 6.0% in the past quarter rained on the parade of a 50-bp rate hike last week. Peaking inflation slowed private consumption, 73% of gross domestic product, to just 5.6% growth from 5.7% in the first quarter and spoiled the 20.7% growth in investments (from 12.4% in Q1). The 2Q GDP number was way below consensus estimate of 6.6% and was a three-year low. In order to achieve the administration’s 7%-8% annual GDP target, the economy would have to grow by 7.7% in the second half. GDP in the first quarter was also revised down from 6.8% to 6.6%. Despite all this, the Philippines’ GDP is still the second fastest in Asia behind only Vietnam at 6.8%. The 50-bp rate hike last week by the Bangko Sentral was the most they did since 2008 and brought the policy rate (reverse repurchase) to 4.00%, 100bps higher year-on-year. The 50-bp hike was widely expected for a central bank that was way behind the curve. The move was even considered ‘neutral’ rather than hawkish and was expected to be supportive of the peso and temper inflation. With the hike, the Philippines joined other emerging markets that took steps to curb inflation from rising US interest rates, a stronger dollar, and global commodity cost pressures. However, real interest rate in the country is still -1.7% (down from -2.2%) making it the only one in the region with a negative RIR. Furthermore, the BSP’s tone has noticeable turned hawkish regarding inflation, ceding that there is “risk of inflation exceeding the target in 2019”, which makes sense as the effect of transport fare and electricity rate hikes are yet to be felt, while the pending minimum wage hike and water tariff increase next year will further fuel inflation. There is consensus expectation of two 25-bp hikes next year, while some left the door for further hikes this year open. Expect bond yields to move sideways as the market keeps an eye out for break-out inflation.

Market review. The local benchmark yield curve dipped by 2bps on average week-on-week (WoW) following the BSP hike and 2Q18 GDP release. The spread between the local 10-yr local benchmark and the 10-yr US Treasury (UST) widened to 356bps from 350bps in the prior week as the former fell by 3bps to 6.43% (done), while the latter was likewise down by 8bps WoW to 2.87%. Yields of ROPs shed 4bps on average, tracking the movement of the UST curve which also decreased by 3bps.

Average total daily traded down 8% week-on-week (WoW) to Php8.2bn. The liquid yield curve fell by an average of 7bps WoW as the front-end (364-day T-bill) was flat at 4.87%, the belly (FXTN 10-61: 9.7yrs) down by 2bps to 6.34%, while the tail (R25-01: 20.5yr) likewise down by 6bps to 7.54%, as a strong BSP policy response has already been priced in. Secondary trading average volume fell by 8% to Php8.2bn as both T-bond and T-bill volume shed 7% and 9%, respectively. The Bureau of the Treasury’s (BTr) fully-awarded Php15bn worth of reissued 5-yr T-bond earlier (August 14) amid strong market demand (1.6xoversubscribed). The auction fetched an average rate of 5.902%, slightly above the secondary market rate. Lastly, the latest Php15bn auction of 91-day, 182-day and 364-day T-bill was fully awarded at average bid rates of 3.244%, 4.117%, and 4.892%, respectively, -5bps, -7bps, and-7bps lower than the previous auction. The auction was 3.3x oversubscribed, anew high this year.

Emerging Markets’ (EM) 10-year up2bps (WoW). Yields of EM bonds we follow were up by 22bps WoW on renewed risk-off sentiment following Turkey’s inadequate response to its currency crisis. Indonesia (10-year yield -13bps), Israel (-9bps), and Korea (-8bps) outperformed last week, while Turkey (10-year yield +266bps), Brazil (+41bps), and Russia (+35bps) underperformed.

USTs down 3bps WoW. US Treasuries were down by 3bps WoW on average, while the 10-yr UST shed 8bps WoW to 2.87%, on flight to safety of funds after Turkey’s inadequate response fuelled fears of currency contagion. The lira has been battered largely due to worries about President Tayyip Erdogan’s influence over the economy, his repeated calls for lower interest rates, and worsening ties with the United States. The central bank pledged to provide more liquidity, cut reserve requirements which would release TRY10bn into the system, but was undercut by Erdogan who rejected economic fundamentals as cause of lira’s weakness. Meanwhile, China announced new tariffs (25%) on $16bn worth of goods (industrial equipment) imported from the US.