Portfolio prospects: Strong fundamentals support a positive outlook for markets

Despite a history of balance-of-payments crises caused by rapid swings in Indonesia’s current account balance, portfolio investors have by and large returned with confidence to the country’s capital markets since the recovery from the 2008 crisis – and this despite short-term corrections such as those during the summer of 2011. Although still volatile due to their limited depth, Indonesia’s bourses seem to have once again become a darling of investors. Portfolio investment grew by a significant 47.1% year-on-year to $15.2bn in 2010. Combined with foreign direct investment (FDI) flows, Indonesia’s capital and financial accounts reached a surplus of $26.2bn in 2010, up from $5bn a year earlier. Loose monetary policy stances in the US and European economies encouraged large-scale capital flows into emerging markets such as Indonesia.

RUPIAH BONDS: Prospects for portfolio investors remain highly attractive. Authorities expect the strong fundamentals of firms issuing stocks and bonds and the solid fiscal position for sovereign bond floats to sustain longer-term growth in demand. Foreign investors have flocked to rupiah bonds, spurred not only by low debt levels and compelling growth rates but also by the prospects of strengthening Asian currencies vis-à-vis the dollar. They owned 34% of all local-currency bonds by late September 2011, compared to roughly 20% in Malaysia and 10% in South Korea. Having floated bonds since 2002 to finance its budget deficit, the Indonesian government has made important progress in establishing a yield curve for its bond markets. The story is certainly compelling, with a debt-to-GDP level of 26%, fiscal deficits of less than 2% and an investment-grade credit rating expected soon that will allow Western pension and insurance funds to place their assets in Indonesia. More risky, 10-year Indonesian bonds yielding 6.8% returns remain far more attractive than 10-year US government bonds at 2.6%.

The dollar and rupiah debt markets for private and sovereign issues started 2011 strongly. In April alone the government raised $2.5bn in traditional dollar bonds, while Pertamina raised significant interest with its $1.5bn debt issue in July. The turmoil that affected global markets in August weakened appetite for foreign currency issues, however, and the rupiah-denominated corporate bond market is expected to grow between 10% and 20% in financial year 2011.

OTHER ISSUES: In contrast, the pace in issuance of dollar-denominated corporate bonds has proven volatile due to fluctuations in international demand, but an average of five to 10 corporates have tapped the international markets in this way annually. A total of $2.6bn in such international bond issues was floated in the year to late September 2011, including Pertamina’s $1.5bn international debt issue in July. At the same time, debt issues such as electricity utility PLN’s planned $2bn global issue have been delayed given global uncertainties after August 2011. Yet the pause following the August turmoil will likely only be short-lived – indeed, the Indonesian government issued a $1bn Islamic bond, or sukuk, in November 2011. It was priced at 4%, which was low when compared to Indonesia’s historical track record, especially given the volatility in sovereign debt markets during the final months of 2011.

More resilient to liquidity crunches in global markets, sukuks already account for 22% of the government’s dollar-denominated debt. The government has earmarked Rp34trn ($4.1bn) worth of assets to support its Islamic debt issuance. The government’s first dollar sukuk issue in April 2009, worth $650m, attracted $4.7bn worth of orders, of which Middle Eastern investors accounted for 30% and Asians 40%. These two groups are eager buyers on Indonesia’s capital markets.

The equities markets rebounded strongly from their depth in March 2009, making it one of the world’s fastest-growing markets since. Foreign investors bought approximately $23bn in stocks on the Indonesian Stock Exchange in 2010, driving the index up 46% in the full year. The picture was mitigated as 2011 wore on, with major swings in foreign demand as large international banks consolidated their positions in core markets.