Indonesia’s Bond Rally May Fizzle as Rate Cuts End

(Bloomberg) -- A rally in Indonesian bonds, the best-performers in Asia this year, may end in coming months as the central bank halts the longest stretch of interest-rate cuts since 2007, Citigroup Inc. and HSBC Holdings Plc said. The government’s forecast that inflation will pick up and increased borrowing to fund economic stimulus spending are bearish signs for the nation’s debt, Manish Bhai, the head of markets at Citigroup’s Citibank unit in Jakarta, said in an interview yesterday. Policy makers will start to raise rates in 2010 as inflation quickens, HSBC said.

Bank Indonesia will keep its benchmark rate at 6.5 percent at a meeting tomorrow after lowering it three percentage points since December, according to 28 of 31 analysts in a Bloomberg News survey. The reductions helped spark a rally in the nation’s local-currency bonds, which returned 15 percent so far in 2009. Philippine bonds returned 5.8 percent, the second-best among 10 regional indexes compiled by HSBC.“Further upside in Indonesian bonds is limited,” said Citigroup’s Bhai, who forecasts the central bank will hold rates tomorrow. I’m a “bit bearish from the third quarter,” he said. The benchmark 11.25 percent note due May 2014 yielded 9.6 percent and 11.5 percent debt maturing September 2019 reached 10.6 percent, according to closing prices at the Inter Dealer Market Association. The yields will end the year at least 9.5 percent and 10.5 percent, respectively, according to Citigroup. The 10-year yield may fall only to 10 percent, HSBC said.

Inflation Risk
Consumer-price gains may accelerate to more than 5 percent next year compared with a 2009 target of as low as 4.5 percent, Finance Minister Sri Mulyani Indrawati said in Jakarta on Aug. 24. The annual rate was 2.75 percent in August. Further cuts in borrowing costs may be unwarranted as inflation gathers pace, the central bank said on Aug. 5.Indonesia intends to sell 150 trillion rupiah ($14.8 billion) of bonds next year compared with 145.5 trillion rupiah this year, according to data from the Finance Ministry.

The 10-year bond yield could fall to as low as 10.1 percent by December as a recovery in the global economy may spur international investors to look for higher yields, said Ariawan, an analyst in Jakarta at Trimegah Securities, Indonesia’s largest publicly listed brokerage. He goes by only one name. Indonesia’s debt will also advance as the government has already sold about 87 percent of its target issuance of bonds this year, Ariawan said.“The supply pressure is down,” he said. “There’s room for yields to go down until the end of the year.”

Bond Return
Overseas holdings of Indonesia’s bonds reached 90.87 trillion rupiah as of Sept. 1 compared with 87.61 trillion rupiah in December, according to the Web site of the Ministry of Finance.The outlook for a pick-up in inflation and higher borrowing costs will “negatively affect returns on bond tenors beyond 10 years,” said Pieter van der Schaft, head of Asian interest-rate strategy in Hong Kong at HSBC, Europe’s biggest bank. Even so, “there’s offshore interest in the bonds right now. There is scope for modest further yield declines,” he said.