It has been a staple of commentary on the growth of Asia’s domestic capital markets that foreign issuance in local currency can only be a good thing. International issuers help populate the domestic yield curve, and the ease of benchmarking that occurs as a result reduces the long-term cost of capital both for onshore and foreign issuers. Great fanfare has greeted debut deals in Asian domestic markets by foreign issuers as if the whole enterprise were quintessentially a win-win for all involved.
Of course we have seen situations, most notably in Malaysia around four years ago, where issuance has been driven not so much by a desire to diversify the investor base as simply to take advantage of forward rate pricing arbitrage.
Back then, much of the Malaysian ringgit issuance emerged thanks to an auspicious differential between ringgit and US dollar forward rate curves. Proceeds were swapped back to US dollars and booked outside Malaysia.
Some Malaysian bankers complained at the time that issuance from the likes of South Korea’s Kexim was messing up pricing in the swap market, where a string of price enquiries in sizes much larger than traders were used to handling caused the market to spike. But everybody got on with it and markets settled down.
Now in Thailand it seems that kind of arbitrage is seen as a brazen affront. Well, perhaps that’s reading a little too much emotion into it, but the Thai financial authorities have just decided that the proceeds of issuance in Thai baht from foreign entities must remain in the country. The argument, apparently, is that such issuance is draining domestic liquidity that could otherwise be used to kick-start the moribund Thai economy.
FOR STARTERS, I’M not totally convinced about the logic of this ruling. Even if proceeds from baht bonds are swapped to dollars on day one, the most likely provider of that swap will be a Thai bank. Assuming the foreign issuer swaps back to US dollars, the swap house buys the baht proceeds of the new deal and sells baht back to the issuer at maturity, as well as selling baht and buying US dollars so that the issuer can service the coupons.
The logic of that trade is that the baht remain in the Thai banking system until the maturity of the bond. In other words there is none of the capital flight which the new ruling appears designed to obviate. I say that because the natural port of call for OTC baht derivatives is the Thai banks. The baht end up in the system anyway.
It’s much the same if you’re a foreign issuer and leave your newly acquired baht funds unswapped. I can’t quite see the difference, other than in the case of a Thai bank underwriting a principal swap, it will acquire funds from the onshore buyers of the bond, which it then has the option of lending out, according to the normal banking business model.
Might the whole crux of this ruling on foreign funding really be that the Thai banks are not doing their bit to help the military junta which assumed power in 2014 and has promised a general election by 2017? In other words, are they deciding to hoard liabilities – their deposits – and go easy on acquiring assets – their loans?
In fact, they are. Thai banks are staring at rising non-performing loans and rising loan-impairment charges as the economy stalls.
In the process, this has shone a spotlight on the country’s household debt, which is the highest in Asia and which threatens to bring severe strain to the Thai banking system.
A Fitch ratings note from last summer, just before the China equity market popped, cautioned: “[Thai] Banks are likely to suffer a quick and substantial deterioration in performance should economic growth fall significantly short of our expectations.”
And the expectations are low. The World Bank predicts that Thailand will register just 2% growth this year, a 20% decline on the 2.5% registered last year. If achieved, that would place the Kingdom as the worst performer among all ASEAN economies. World Bank economists cite high levels of household debt and subdued export growth for their call.
IT’S SMALL WONDER the junta is worried and flailing around in a desperate search for possible sources of growth. The odd take from the insistence that domestic bond proceeds remain in the country is that the financial authorities are searching for the multiplier effect of funds circulating around in the economy and hence boosting growth.
In my opinion, as stated above, swapped proceeds of domestic bond issuance in Thailand have the potential to do just that, but the banks are pulling back from lending.
Meanwhile the thought that proceeds from bond sales forcibly retained onshore will somehow make up the gap by being applied to projects and other useful activity is stymied by the collapse in foreign direct investment in Thailand: it plummeted by 78% between January and November of last year, according to Bank of Thailand data.
The best advice I can come up with for the Thai junta would be this: instead of fiddling around with capital markets regulation just have a general election instead. You might well get voted out, but at least that sought-after growth would have a chance of making a return.
