Muhammad bin Ibrahim: Insights from the financial market in 2015,
expectation and direction going forward
Opening speech by Mr Muhammad bin Ibrahim, Deputy Governor of the Central Bank of
Malaysia (Bank Negara Malaysia), at the Annual Dinner of Persatuan Pasaran Kewangan
Malaysia (PPKM), Kuala Lumpur, 13 November 2015.
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This annual dinner is an important event for it presents an opportunity for us and the market
to reflect upon all the challenges in the financial market, and draw lessons as we move into
the new operating year.
The year 2015 has been a very interesting year for all of us here, industry players and
regulators alike. During the year, we witnessed significant capital outflows as markets
responded to the global economic developments. In particular, every commentary or data
release hinting at policy normalization in the US was met with gyrations in financial markets.
Emerging currencies, felt the brunt of such volatility, especially commodity exporting
countries given the significant decline in commodity and energy prices and moderation in
growth for the China's economy. For Malaysia, we saw ringgit weakened as much as 18%,
while in the bond market, we saw relative stability even though yields went up by 30 to
50 bps given by the negative sentiment in the domestic and global markets.
Insights from the financial market in 2015
In the midst of all the global economic uncertainty and financial market volatility, I would like
to highlight some observations and comments.
Our currency, the ringgit, has been subjected of market volatility throughout this episode of
global economic uncertainty. While most emerging markets currencies depreciated following
the reversal of capital flows, the extent of ringgit weakness has gone beyond fundamentals
and rational thinking. While market liquidity remains sufficient, on certain days, FX spreads
have widened to 100 pips in the interbank market, and led to spikes in the movements of the
ringgit exchange rate. Market volatility has almost doubled from around 8% to 14-15%.
I believe that the recent adverse market conditions with thin liquidity in the FX market have
been exacerbated by irrational market behavior and risk aversion. In the current market
environment, our own analysis has revealed that the higher interbank volume and the higher
market volatility were due to this risk aversion. A small client's order gets passed around
among interbank players like a "hot potato", and the exchange rates move each time it
changes hand. These irrational behaviors have significant repercussions on the real sector of
the economy. Banks, fearing rapid movement in the ringgit, quoted widen spreads to
corporates and this gets amplified when corporates themselves get increasingly nervous and
rush to fulfill their foreign currency requirements. As a result, trades in small volume can lead
to a disproportionate impact on the exchange rate. This is in contrast to Malaysia's strong
economic fundamentals, steady and sustained growth, high level of international reserves,
low unemployment and a resilient and diversified financial system, etc.
Given the strong data, this is not what and how a developed market should behave as there
is ample FX market liquidity.
If we look at the recent daily volume of FX trade, although lower than last year, it was still
double the amount 5 years ago, between USD5-6 billion for the USD/MYR pair and between
USD8-10 billion for all other currency pairs. What we need to do now is to remind ourselves
and each other constantly that we need to put things in proper perspective. As a group, we
constitute the market and individuals, we should behave responsibly.
On the other hand, despite the adverse market conditions, we noted that the Malaysian bond
market has been holding up quite well despite lower level of liquidity, thanks to domestic
institutional players' support. Nevertheless, we also realized that significant foreign
participation in our financial market can be both a boon and a bane for the industry. While
high foreign participation has led to better liquidity and lower cost as what we have
experienced in the past, it has also brought risks and vulnerabilities. The percentage of
nonresident holdings itself has evolved into a risk indicator, regularly quoted by market
commentators, where 48% is the number frequently quoted as the percentage of
nonresident government security holdings. There was also the argument that large holdings by
non-residents might leads to sell offs during period uncertainty, thus causing financial market
instability. This is erroneous and misleading. In fact, non-residents only hold 29% of
government securities which should include the Sukuk or MGII. Furthermore, most of the
outflows by non-residents arise from the sale of short-term bonds associated with short-term
views while investors of Malaysia's long-term bonds have remained steadfast in their
investment holdings. We also observe since October 2015 the non-resident portfolio flows
has becomes positive.
In 2015, as part of our effort to improve transparency, we have embarked on an initiative to
gather statistics on the ultimate beneficiary owners of Malaysian bonds and sukuks to give
the market a clearer picture on the types and behavior of investors in our market. Preliminary
data showed that of the total non-resident holders of Malaysian debt securities, 70-80%
were stable long-term investors while the remaining minority was short-term investors. We
are now looking at measures on how we can enhance the disclosure requirements of our
bond holdings to be even more transparent so that our financial market would be on par if not
better than the best practices adopted by advanced markets.
Over the years, we have liberalized the foreign exchange administrative rules to promote
competitiveness and reduce cost of doing business, attract foreign investors and create
business opportunities for our local players. Ringgit bonds were allowed to be traded freely
offshore, with some restrictions placed on ringgit funding and FX derivatives markets to
contain speculation, with the aim to ensure financial stability. An unintended consequence of
this liberalization was the emergence of offshore transactions relating to Ringgit such as NDF
and NDIRS. BIS estimates that the average daily MYR forwards traded offshore is 4 times
the amount onshore. This should not be the case as MYR is not an internationalized
currency, and that all forwards should be backed by firm trade transactions.
Given the sizeable volume and the opaque nature of such markets, I cannot help but ask:
"What are we missing here? Who are the players in the ND markets? Are they hedging or
speculating? "
Is it the lack of capacity of our local players to serve certain players? Or is it that the local
regulatory and operating environment needs to be adjusted? These gaps should be identified
and remedies formulated as the offshore market represents a loss of business opportunity for
the onshore players. Fundamentally since the transactions are related to Ringgit, its activities
should be captured onshore and transacted through the onshore market players. Ringgit
exchange rate should be determined by onshore players, reflecting the underlying demand
and supply of foreign currencies in the economy. It should not be dictated by any market
other than Kuala Lumpur.
Expectation and direction going forward
As 2015 draws to a close, let us not allow the increasing challenges to stop us from
advancing forward. Volatility is not likely to go away any time soon. It would be the norm. A
new normal. Let us persevere, learn from the past and as a group forge ahead into the
future. It is appropriate to have a retrospective here.
First, given the unpredictable and dynamic nature of the financial market, there is urgency for
us to keep our fingers on the pulse of the market and have access to real time information.
There is much scope for cooperation between the central bank and industry players in this
area. In addition to being familiar and observance of the rules and regulations of the financial
market, we expect market participants to know the details of their clients' transactions to aid
us in understanding the nature of the market conditions.
Everyone has an important role to play in maintaining the stability of the market and remain
vigilant on all financial market activities. This is necessary to prevent activities that could
threaten financial stability and create unnecessary volatility, or incidents that could damage
the integrity of our domestic financial market.
Secondly, while I'm on the topic of enhancement of market stability and integrity, I should
stress on the importance of upholding individual ethics and professional conduct. The market
is made up of individuals including institutions. The glue that binds individuals and institutions
that constitute the market is TRUST. A case in point, on rate rigging, several global banks
paid hefty fines to regulatory authorities because of individuals rogue traders. Many dealers
were convicted of wrong doings, and investors are still taking lawsuits against the banks.
TRUST was violated. While no Malaysian dealers were caught red handed in market
misconduct, we should not be complacent. In any financial market, misconduct is often
driven by greed and greed is something no system could be tempered proof. Greed creates
mistrust. And mistrust damages confidence. But greed can be mitigated. This can be
achieved by establishing a system of consequence management. It is certainly possible to
limit or mitigate cases of greed if as a collective, we would not tolerate any case of wrong
doing within our community. As a group, we should expect individuals to behave according to
the highest professional standards and held accountable for their actions. On this aspect,
PPKM had instituted a mechanism to prevent staff with questionable conduct from moving
freely between banks without full disclosure of his or her professional history. It is in the
interest of the industry that PPKM continue the role as a gatekeeper in setting professional
standard with a view to uphold the highest standard of professionalism and conduct among
its members.
And, this brings me to a third point, we need to enhance market participant's professional
qualification, knowledge and skill set. Financial market is dynamic and evolving, and players
need to keep abreast of both domestic and global developments. There are ample financial
market courses and programmes offered here in Kuala Lumpur, however majority of these
program are still at entry level courses. PPKM together with the Asian Institute of Chartered
Bankers will cooperate in the future to develop a series of high quality, advanced level
financial market forums and seminars, thus creating a platform to expand network, develop
expertise and to advance the Malaysian financial market community to another level of
professional and technical excellence.
Fourth, technology has become a crucial enabler in the financial industry as it continues to
provide benefits by reducing financial transaction cost and enhancing trade execution
efficiency. We need to embrace new technology, such as electronic platform. Technology
also greatly facilitates market surveillance and transparency by offering real-time information.
This is particularly critical in a fast moving market, where delay in information mean loss of
opportunities for banks, and delay in taking action to stabilise market. The need for real-time
information in a fast moving market is urgent. For instance, trades that are still being
concluded through traditional voice broking and conversational dealing screens are already
obsolete in developed markets.
Technological advancement requires behavioral change
As we move forward, financial market participants who rely on the traditional ways for dealing
and communicating, they must relook at how they strategize their business to remain
relevant in this era of rapid technological innovation. If we fail to change, the consequence is
obvious, loss of business and demise of your business.
Fifth is the trend towards further regional integration. With the implementation on ASEAN
Banking Integration Framework, regional markets will be more integrated. Domestic financial
institutions must be ready and becomes an active player in the ASEAN economic integration
process. On this issue BNM has started investing our international reserves in the regional
financial markets, and increasingly a large portion of our reserve management business was
being done with Malaysian financial institutions. With this mandate, we hope that Malaysian
banks can play a greater role and expand their business by improving regional expertise and
reach. Central to this is capacity building as more regional business opportunities will be
accessible once we have the capability to offer cross border financial products and services.
In this regard, for strategic positioning and to ensure long-term competitiveness, Malaysian
banks operating across borders, should position themselves to be the first port of call for
foreign investors who are considering to do business in this region.
In line with the objective of supporting regional integration, Bank Negara Malaysia has
recently signed a Memorandum of Understanding (MOU) with the Bank of Thailand to
promote the use of Malaysian ringgit and Thai baht by the private sector to settle
crossborder trades and direct investment. The cooperation is motivated by the strong trade
relationship between the two countries. We expect Malaysia-Thailand trade links to reach
RM100 billion in 2015.
While the US dollar is still the dominant trade settlement currency, the THB and MYR are
second and third most used currency by Malaysians and Thais - indicating potential for
greater acceptance to settle trade in domestic currencies.
The framework we are developing with the Bank of Thailand contains key features which
include the appointment of selected financial institutions in Malaysia and Thailand to facilitate
local currency settlement. These financial institutions will be accorded certain foreign
exchange administration flexibilities. If the initiative proves successful, we plan to expand the
framework to other ASEAN trade partners as well.
Conclusion
As we keep our eyes firmly on the future, a humble reflection on the past and honestly
looking at our short comings would certainly lead us to a brighter future. Financial markets
should continue to play its intermediary role for the purpose of funding to the real economy,
efficiently allocate capital where it is needed and assist economic agents to manage financial
risks associated with investments, production and trade. These should always remain our
core objectives.
I also wish to congratulate PPKM on your achievements this year and the successful
organisation of this event. May tonight's dinner, themed "Friday Night Fever", be a night of
joy for all of us today.
Thank you.