Indonesian bonds firm ahead of monetary policy meeting, likely to rally

The Indonesian 10-year bond closed modestly firmer on Wednesday, as investors awaits monetary policy meeting. The yield on the benchmark 10-year bonds, which moves inversely to its price, closed down 0.26 pct to 7.412 pct and the yield on the 1-year bonds fell 1.35 pct to 6.818.

The Indonesian central bank, Bank Indonesia (BI), is likely to keep its policy on hold during its meeting tomorrow (1200 GMT), according to Societe General. The central bank lowered the interest rate for three straight times during its first three meetings this year. The country’s current account and fiscal deficits are likely to disappoint and therefore the BI is unlikely to be oblivious to these issues, noted Societe Generale.

Moreover, in an attempt to accelerate monetary policy transmission in the economy, the central bank announced plans last Friday to adopt 7-day reverse repo rate as the new benchmark policy rate from August 19th. The 7-day reverse repo rate, currently at 5.50 pct will replace the 12-month reference rate, which is currently at 6.75 pct to help spur lending and support growth. The central bank also said that it would narrow the interest rate corridor from 250 bps to 150 bps.

“With the 25bps rate cut last week, the Bank Indonesia has now cumulatively cycle. We see scope for another 25-50bps in the up-coming policy meet”, said ANZ in its latest report.

We foresee that the Bank Indonesia is unlikely to ease at the monetary policy meeting which is due on Thursday, having already cut rates by a total 75 bps since January. This is consistent with the assessment that recent CPI figures have improved a bit -CPI edged up to 4.5 pct y/y in March from 4.4 pct y/y in February.

In addition, the March exports figure tumbled 14 pct y/y, against market expectation of 14.04 pct y/y, from 7.2 pct y/y decline in February. March Imports were also down 13.1 pct, against market consensus of 12.02 pct, as compared to 11.7 pct in February and oil and gas exports fell 38.2 pct y/y, from 36.5 pct y/y in February, indicating weak domestic demand and resulting in a trade surplus of USD 1.65bln. We expect the Bank Indonesia’s easing trend to continue in 2016 due to ongoing weakness in China and the Eurozone.

Meanwhile, the Bank Indonesia governor Martowardojo said recently that the central bank still has room to ease monetary policy, adding that Bank Indonesia would be data dependent albeit more cautious in future policy decisions.

Lastly, if exports, inflation and GDP growth fail to improve over the coming months, easing will occur sooner rather than later, pushing bonds prices further up.