If anything, the regulators seem to have looked towards the successful evolution of the Singapore markets, where progress has been largely a result of considered and detailed planning as opposed to a more laissez-faire approach.
In terms of overall objectives, the plan was designed to ensure the capital markets would become the preferred fundraising centre for Malaysian companies, to promote an effective investment management industry and a more conducive environment for investors as well as enhancing the competitive position and efficiency of market institutions.
Additionally, it is hoped the proposal will help develop a strong and competitive environment for Malaysian intermediaries, to put in place a stronger and more facilitative regulatory regime and to establish Malaysia as an international Islamic capital market centre.
The plan has been split into three phases. Between now and 2003 (phase one), Malaysia will look to increase domestic capacity and build a platform for more competitive markets through progressive deregulation and selective liberalization. This will involve relaxing barriers in certain markets - the rating agency business, for example - in order to accelerate development.
Phase two (2004-2005) continues along much the same path, with the stated aim being to "progressively expand market access and gradually remove barriers to entry across other capital market segments and further develop the breadth and quality of services and infrastructure."
By the time phase three (2006-2010) is complete, the SC sees the Malaysian capital market as approaching a state of maturity and looking to explore and exploit international opportunities by "developing its positioning in areas of competitive and comparative advantage."
The bond markets
Developing the debt capital markets, and specifically the corporate bond market, will be a major part of the SC’s strategy. According to the report: "A robust domestic corporate bond market is essential in order to ensure a competitive source of long-term debt funding for investors, provide a viable investment alternative for investors seeking fixed income investment exposure and promote greater diversification of the financial system.”
In trying to meet those aims, the SC has targeted specific areas where the Malaysian bond markets remain inadequate. These include the timeliness and costliness of issuing bonds, the almost complete absence of a secondary market, the lack of a benchmark yield curve and little sophistication in available products, including the slow development of the asset-backed market.
Among the more interesting and progressive parts of the bond plan will be the introduction of a full disclosure-based framework for the issuance of corporate bonds, which should aid transparency, and the decision to allow the regulated short selling of government securities and corporate bonds. The plan will also remove the mandatory requirement for credit ratings on these bonds, which will open up the market for a wider range of issuers.
The SC has identified broadening the investor base, both institutional and retail, as a vital part of its plans. To this end, restrictions on how employee provident funds can invest their funds will be eased, and the participation of retail investors in the market will be encouraged through promoting the setting up of bond funds.
Measures to bring the market up to international standards include allowing international rating agencies to rate domestic deals and, over time, the SC will look at whether foreign corporates should be allowed to issue ringgit denominated paper.
The SC has also said that it will consider changes to the tax framework, including the removal of the maligned withholding tax. This is an impediment to the internationalization of the market as both foreign investors and issuers are subject to it, whether buying or trying to sell ringgit bonds. Some local bankers say that this is unlikely, however, certainly in the short term, as tax on debt and equity deals is an important revenue source for the government.
On a more positive tax issue, however, the government has recognized that it needs to ease restrictions that have blocked the development of the securitization market. Stamp duties and property gains tax charged on special purpose vehicles are to be removed and clearer legal and regulatory guidelines for this type of product will also be introduced.
Market response
On the whole, the plan has been well received in the market. John Tan, fixed income strategist at Standard Chartered, is mostly positive on the proposals to boost the secondary market. “The Malaysian authorities recognize that it is important to have an alternative funding source,” he says. “After what happened in the last crisis, when bank lending led to a lot of NPLs on the books and the equity markets under performed, bond yields rose and any corporate issuer who is familiar to investors may find it useful to look at doing a bond deal.
“The master plan includes some positive measures, including the removal of the ban on short selling of securities,” Tan continues. “That should encourage trading and add liquidity in the market when the economy picks up. The repo facility that will be implemented will also be important as it will enhance returns.”
Although the removal of withholding tax is unlikely at this stage, Tan feels it would be an important step in furthering market development. “On this issue, any move that allows foreign investors or issuers to participate fully will add diversity and depth to the market,” he opines. “It could also result in the development of a cross-country swap market, as has been the case in Singapore.”
Ultimately, though, Tan feels that one of the key factors in boosting the bond market will have to come from an attitude shift in the investor community. “The market will continue to develop over the next 10 years, but for investors we need to see a shift away from the gambling mentality that makes them take short-term risks on the stock market,” he argues. “We need to see the development of asset management techniques, but also to develop new debt instruments and derivatives, such as bond futures and foreign exchange swaps to compliment the debt markets.”
Yeah Kim Leng, chief operating officer at Rating Agency Malaysia, believes the debt market has developed in recent years, but believes the conditions are in place for more significant expansion. “From our perspective, the debt market has developed in terms of the percentage of debt as a part of GDP, which was 10.2% in 1995 and was 32% last year,” he says. “In the last decade there has been definitely a shift in funding sources away from the banking sector towards the debt market.
“The market has definitely broadened: it is still in the first phase but there has been successful development in the primary market,” Leng continues. “Going forward, we need to deepen the market further in order to develop a secondary market - something that is being addressed in the capital markets master plan.”
Leng also argues that the change in investor mindset that Tan advocated is actually happening in Malaysia, and if anything, it is supply side factors that could lift the market. “The shortage of issuance has led to a situation of captive demand,” he explains. “We are seeing increasing sophistication among investors in their portfolio management. There is more interest in bonds than before the crisis when they were more focused on equity performance. But now they see good returns, more stability and other positive factors that underpin the bond markets so more funds are being set up to focus on this sector.
Using the debt markets is also advisable for Malaysian issuers because of their unusual funding needs, according to Leng. “The sophistication also extends to issuers with more of them matching maturities to their funding needs,” Leng argues. “This makes it more cost effective and better for the borrower from a risk management point of view. A lot of Malaysian corporates are tied down to long-term projects, so the debt market gives them a good opportunity to match their funding requirements."
Leng feels the moves in the master plan to open up the credit ratings business will have a positive effect on issuance and lifting standards. “The government has removed the requirement that all deals must at least have an investment grade rating, which gives the market a major boost because it broadens the issuer base,” he says. “They are also talking about opening up the ratings business so that foreign agencies can come in. That will also help bring Malaysia more into line with best international practices.”
However, Leng agrees with Tan on the need to address the tax situation. “The withholding tax remains an issue because it directly affects foreign investors and issuance,” he adds. “We’ve advocated its removal for some time now but we understand the authorities are still contemplating this issue.”
D. Mahendran, a fixed income analyst with HSBC in Kuala Lumpur, agrees with the general thumbs up consensus for the SC’s plan, but feels that organic market growth will be more influential. “Generally, the plan is a positive move, but over the last couple of years we’ve already seen a shift towards the bond markets,” he argues. “But growth will be driven more as a result of the market than the master plan. Interest rates are definitely favorable for the higher rated companies looking to do deals because there is a lot of interest among investors.
“In the next year to year-and-a-half, what we’ll probably see is the development of new products like asset-backed securities,” he continues. “We haven’t seen much issuance in this area but there is potential for growth here. In terms of the kind of business that can do deals, property is out for the moment, but the manufacturing sector and power companies, which tend to be better rated, could be the likely sectors.”
The fact that the Malaysian government has recognized the value of the capital markets, at the very least, sends out positive signals, and it will be interesting to monitor the progress made in the next few years. Market participants have made fairly positive noises over its proposals, and it must be hoped that the report’s tone of opening up this sector to all players has genuine substance, rather than mere rhetoric.
