Published October 27, 2009

KL deficit cutting good for 5-year bonds: RBS

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(SINGAPORE) Malaysia's plan to cut the budget deficit in 2010 will benefit five-year bonds as the government will have room to extend maturities on its debt, according to Royal Bank of Scotland Group plc.

RBS favours buying five-year notes and paying a fixed rate three-year interest-rate swap, betting that the difference in yield will narrow to zero from the current spread of 55 basis points, Singapore-based strategist Nhan Ngoc Le wrote in an e-mail. The trade is the company's preferred choice, given the difficulty in shorting bonds in Malaysia, he said.

The notes will outperform three- and 10-year securities and swaps as the government sells fewer 2015 bonds, RBS forecast in an Oct 23 research report. Malaysia raised RM34 billion (S$14 billion) from five-year debt, or 43 per cent of gross proceeds in the first 10 months of this year, versus 29 per cent in 2008, according to data from Bank Negara Malaysia. The ratio will fall to 23 per cent next year, according to RBS.

A long position is a bet that bond prices, which move in the opposite direction to yields, will increase.

Five-year yields stood at 3.83 per cent as of 12.53pm in Kuala Lumpur, while the three-year swap was 3.28 per cent, according to Bloomberg data. The difference was last near-zero on Jan 22.

RBS also expects the yield gap between five-year bonds and similar-maturity swaps to go 'deeper into negative territory' from minus 10 basis points currently.

Spreads on the three- and 10-year sectors were minus 39 basis points and 48 basis points respectively, Bloomberg data show.

Bank Negara Malaysia will keep its overnight policy rate at a record-low 2 percent at an Oct 28 meeting, according to all 21 economists in a Bloomberg News survey. The rate will stay there until June next year, RBS predicts. -- Bloomberg