This article first appeared in Capital, The Edge Malaysia Weekly on September 26, 2022 - October 2, 2022

THE local stock market is expected to remain choppy in the coming months as the US Federal Reserve has signalled that more aggressive interest rate hikes than previously forecast are coming.

While many analysts are of the view that the market has already priced in the negative effects of a higher rate hike, they remain cautious about further downside pending greater clarity at the next Fed meetings in November and December.

Unsurprisingly, markets are now keeping a close eye on Bank Negara Malaysia to see if it plans to take a leaf out of the Fed’s book and pursue a more aggressive monetary policy as well, in a bid to curb inflationary pressure.

Over the past week, the ringgit took a beating on expectations of higher US rates. At RM4.50 against the greenback, the local unit was trading at its lowest in 24 years, as the spread between US and Malaysia rates widened following the additional hike of 75 basis points (bps) by the Fed to the 3.00%-3.25% range last Wednesday.

Borrowers are already cringing at hints of more aggressive hikes ahead even though the latest Fed increase was the third in a row amid record-high inflation in the US, stoked by supply constraints on the back of the Russia-Ukraine war and robust demand.

According to a Financial Times report, Fed chairman Jerome Powell warned that tougher action was needed to tame inflation.

“We have got to get inflation behind us. I wish there were a painless way to do that.

“No one knows whether this process will lead to a recession or if so, how significant that recession would be. The chances of a soft landing are likely to diminish, because monetary policy needs to be ‘more restrictive for longer’,” Powell said at a press conference last week.

Markets expect the US benchmark rate to rise above 4% by year end, according to CME Group.

The increasing Consumer Price Index (CPI) and the Fed’s aggressive response have sparked a new wave of selling pressure on Wall Street.

US inflation remains elevated as the CPI rose 8.26% in August compared with 8.52% in July and 5.25% a year earlier. The Fed’s target rate for inflation is 2% annually.

Just this year alone, Bank Negara has already raised its overnight policy rate (OPR) thrice — or a total of 75bps — to 2.5%, dampening market sentiment as the cost of borrowing gets more expensive.

The central bank is expected to raise the OPR by another 25bps in the fourth quarter, although many economists think that Bank Negara is unlikely to shadow the Fed’s aggressive rate hike.

“We believe that Bank Negara Malaysia will assess the impact of the previous three rate hikes on the economy before considering the next move,” Socio-Economic Research Centre executive director Lee Heng Guie tells The Edge.

He reckons the central bank will not follow the Fed’s aggressive monetary tightening as Malaysia’s headline and core inflation are not as elevated.

In May, Bank Negara raised its OPR for the first time in two years after having maintained the benchmark interest rate at a historical low of 1.75% since July 2020 to cushion the economic impact of the Covid-19 pandemic.

“With three hikes of 25bps each to 2.50% currently, the normalisation of Bank Negara’s OPR on a gradual and measured pace remains on track, taking into consideration the need to support economic recovery and keep a lid on inflation.

“Bank Negara will not follow the Fed down the path of interest rate normalisation, that is to mimic the quantum and pace of the US Fed rate hikes as Malaysia’s headline and core inflation have not reached alarming levels as in the US and other advanced economies,” says Lee.

Sunway University Business School professor of economics Dr Yeah Kim Leng says the Fed’s interest rate could reach as high as 4% to tame inflation. “US interest rates will likely settle higher in the post-pandemic period that is further exacerbated by the Russia-Ukraine conflict and sanctions on Russia.”

Currently at a fresh new low of RM4.57 to the US dollar, the shrinking ringgit has spooked investors as it continues to move southwards.

Economists say the ringgit will continue to remain under pressure because of the widening spread between US and local interest rates.

“While the ringgit bears the brunt of downward pressure against the US dollar due to the anticipated widening interest rate differential with the US interest rate, Bank Negara needs to balance between supporting growth and anchoring inflation,” says Lee.

“Raising interest rates too much may temper domestic demand given that households and businesses are already feeling the pinch of inflation, higher cost of living as well as increased business and operating costs,” he adds.

Maybank Group’s regional head of FX research and strategy Saktiandi Supaat has maintained his year-end forecast for the ringgit at RM4.50, but hints that it could change depending on the upcoming Federal Open Market Committee (FOMC) meetings in November and December.

“For now, we are not changing our year-end forecast of 4.50; however, we should expect the ringgit to range around 4.55-4.65 over the next month — ahead of the November and December FOMC meetings.

“Any further changes will be reflected in our upcoming October FX monthly. Any further domestic factors could possibly raise the ringgit volatility,” he tells The Edge.

“Central banks globally will be under pressure to raise their rates, but I am mindful that ongoing uncertainties such as global recession risks into 2023, and a tentative retreat in commodity prices, especially global oil prices, are probably factors that may weigh on the extent of any sustained [interest rate] increases by Bank Negara,” he adds.

In July, Malaysia’s inflation rate shot up to 4.4% year on year from 3.4% in June, led by food and non-alcoholic beverage components. Food inflation hit an 11-year high of 6.9%.

Yeah believes that Bank Negara will not take the path of US rate hikes even though the ringgit could be jeopardised.

“Since monetary policy is pursued independently, Malaysia’s OPR will be determined by evolving growth and inflation developments,” he says.

While the diminishing ringgit has wreaked havoc on many Malaysians, it has translated into better export numbers for the country.

Malaysia’s trade remained steady in August with exports jumping 48.2% to RM141.33 billion — the 13th consecutive month of double-digit growth, the Ministry of International Trade and Industry said last Wednesday.

The country’s trade surplus stood at RM16.92 billion as imports surged 67.6% to RM124.41 billion. Total trade rallied by 56.7% to RM265.74 billion compared with August 2021, (then) the 19th consecutive month of double-digit growth.

Has the market reached bottom yet? This is the million-dollar question in roiling markets.

Areca Capital Sdn Bhd CEO Danny Wong reckons that the market has already priced in the potential of higher rate hikes by the Fed, but this will depend on impending inflation figures in the US.

“I think we are near the peak of the rate hike cycle where moving forward, we expect a slow hike. Market sentiment may still be fragile and concerns of impact on aggressive hikes include a hard landing,” he says.

The US market was in negative territory last week as the Dow Jones Industrial Average slipped 2.5% to 30,183.78 points, while the S&P 500 closed down 2.86% to 3,789.93 points for the period between Sept 15 and 21. The Nasdaq Composite — mainly consisting of technology stocks — fell 2.88% to 11,220.19 points.

Bursa Malaysia was not immune as the FBM KLCI declined 1.37%. Year to date, the 30-main companies index has dropped 7.7%.

It has been an unsettling year for the global equity markets as numerous rate hikes since the beginning of 2022 have made investors nervous.

MIDF Research head Imran Yassin Md Yusof suggests that there are pockets of opportunity in the battered market, which is currently trading at attractive valuations.

“Although interest rates are rising at the moment, it will eventually end and stabilise at a certain level.

“Hence, what is more important is the future direction of the rates. We expect that the US Fed will start pivoting at the end of the year, which will mean that the pace will reduce and will cease sometime next year.

“When this happens, we expect that valuations will start to recover. As such, we believe that investors could take advantage of the current low valuations,” he says.

Investors should consider companies with good fundamentals such as a solid balance sheet and good dividend yield to limit any downside risk, according to Imran.

On a positive note, he says that Malaysia’s economy is doing well and will expand more than last year; growth is likely to be better than in advanced economies.

“Therefore, sectors such as banking should be beneficiaries. We also like construction due to the expected increase in jobs, especially with MRT3 (the third mass rapid transit line).

“Another sector that we like is oil and gas due to elevated crude oil prices,” says Imran.

Oil prices skidded slightly below US$90 per barrel last Wednesday and are at around US$89 per barrel.

“Be selective in stocks. Focus on those sectors that benefit from rising rates such as financial/ banks, and cash-rich companies,” says Areca’s Wong.

“Also, the Fed’s more aggressive stance on interest rates, and the weaker ringgit is positive for companies with foreign income or business.”

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