SPECIAL REPORT : Use of bonds to come at a cost

SPECIAL REPORT : Use of bonds to come at a cost.

With mega-projects scheduled to take off this year, bond issuance will remain the priority tool for both the government and the private sector in raising funds.

However, using this type of debt instrument will come at a higher cost, as bond yields will possibly rise by up to 200 basis points during the year.

The Bank of Thailand's 30-per-cent capital reserve requirement again has to be blamed for the increase.

According to Nattapol Chavalitcheevin, president of the Thai Bond Market Association (Thai BMA), short-term paper will find 2007 a more difficult year than 2006. It is expected that there will be more debenture issuance this year, as blue-chip companies that issued bonds overseas in 2006 are expected to change their strategy and issue domestic bonds instead. However, the issuance will come with higher costs as the yield curve has continued to rise.

The central bank has consistently announced a series of measures to prevent baht speculation. Its measures announced in November, including prohibiting non-resident sales and buy-backs of short-term bonds from financial institutions, dragged the yields of long-term bonds up by more than 50 basis points over two weeks.

Then the last straw came with its December 19 (Black Tuesday) measure, which lifted the yields of all bond maturities by around 30 basis points in a single day.

The yield is expected to continue to rise as foreign investors are likely to continue to sell out their bonds. As the liquidity in the bond market is low, the force to sell is not matched by a similar force to buy, resulting in a rapidly steepening yield.

Nattapol said the yield of long-term bonds had actually started to slip - from more than 5 per cent to plus 4 per cent - since the middle of 2006. This is because the supply of short-term bonds was not enough, as mutual fund companies absorbed about Bt700 billion-Bt800 billion out of the total Bt912.2 billion bonds issued with maturities of less than 270 days.

This is in line with a number of short-term fixed income funds launched throughout last year. Such funds sold like hot cakes, especially those launched by the mutual fund units of big banks.

Prior to Black Tuesday, the Thai BMA targeted that the market for outstanding bonds could reach Bt4.7 trillion-Bt5 trillion over the next five years, from Bt3.77 trillion in 2006.

The Finance Ministry plans to issue Bt316 billion in bonds, while corporations are expected to issue around Bt180 billion worth of debentures in 2007. This excludes the Bangkok Metropolitan Administration's planned bond issuance to support Skytrain construction. Therefore, the supply side is not a worry. What is of more concern is the demand.

With foreign investors scattering out of the Thai bond market, it's possible that bond issuance could be in oversupply. Institutional investors like the Government Pension Fund (GPF), the Social Security Office (SSO), mutual fund firms and insurance companies are not big enough to absorb all the supply.

It has long been said that the economy will be stable if the country has three strong pillars: stock market, money market and bond market. The Thai economy crashed badly in 1997 for one main reason - it didn't have a strong bond market.

Nattapol said that to reach a stable stage, the overall value of bond issuance must be as much as - or more than - gross domestic product. Currently, there are fewer than 100 debenture issuers, with bonds worth about 50 per cent of GDP.

It is expected that even in a decade, the value of bond issues will not match GDP, especially when negative factors keep hitting the bond market.

Piyarat Setthasiriphaiboon

The Nation
Thursday January 11, 2007