By Marissa Mae M. Ramos, Researcher
THE SPREAD of the coronavirus disease 2019 (COVID-19) in the first quarter has put a damper on the performance of financial markets for the rest of the year.
The first two months of the year saw “mixed developments,” according to the Bangko Sentral ng Pilipinas (BSP) with the effects of Taal Volcano eruption in January being counterbalanced by a thawing of relations between China and the US over trade issues.
Even with increasing concerns over the spread of the virus, which originated in China, outlook on financial markets remained positive. In February, Japan’s Rating and Investment Information, Inc. upgraded the Philippines’ credit rating to “BBB+,” a step away from the “A” rating targeted by the government. Later that month, Fitch Ratings changed its rating outlook on the Philippines to “positive” from “stable”, indicating its rating could be potentially upgraded.
Moreover, the BSP has said the country’s manageable inflation environment allowed room for a “preemptive reduction” in key interest rates to support market confidence. Aside from the policy rate, the central bank also said it is on track to cut the reserve requirement ratio (RRR) for banks to a single digit, in line with those of neighboring economies.
The quarter also saw the BSP’s Monetary Board slashing policy rates by 25 basis points (bps) and 50 bps in Feb. 6 and March 19, respectively. It also reduced the RRR of universal and commercial banks by 200 bps to 12%.
“At the start of the year, the outlook of the banking industry was largely positive. The banking system had just come off a record year of profitability, with net income rising by 28.4% year-on-year, a growth rate not seen since 2013. Banking system resources were likewise trending towards a strong growth path, while liquidity and capital buffers were maintained at levels beyond domestic and global standards,” the BSP said in an e-mail.
The central bank added that the outbreak of COVID-19 in March and the resulting implementation of the lockdown in Luzon island “posed a significant challenge” to the performance of domestic financial markets.
“Indicators covering the debt, equity and foreign exchange markets strongly reflected the uncertainty brought about by the outbreak as well as its repercussions on the global economy (e.g., the large drop in the price of oil), with substantial declines noted in the values of indices, the widening of swap points, and increased volatility noted toward the end of March. The higher demand for liquidity by bank depositors and borrowers may have likewise decreased banks’ own appetite for investments as banks strove to bolster their cash positions to ably meet client requirements,” the BSP said.
The local transmission of COVID-19 has prompted the government to put the entire island of Luzon on lockdown starting March 17. Local financial markets were closed before resuming trading two days later.
In the equities market, investors rushed to the exits once trading resumed with the barometer Philippine Stock Exchange index (PSEi) closing by 711.95 points or 13.34% lower to 4,623.42 on March 19 — its largest-ever one-day drop in both points and percentage.
The PSEi closed the quarter at 5,321.23, down by 31.5% compared to the previous quarter’s marginal 0.5% rise.
Similarly, debt paper auctions conducted in the first quarter saw robust demand. Treasury-bill (T-bill) auctions conducted in the January-March period saw total subscription amounting to around P599.8 billion, around 2.2 times the P275-billion aggregate offered amount.
Treasury-bond (T-bond) auctions during the period had a total subscription amount of P438.3 billion, 1.5 times more than the offered amount of P284 billion.
In the secondary bond market, domestic yields were higher by a range of 5.8 bps for 182-day T-bill to 73.1 bps for the two-year T-bonds compared to end-December 2019 levels. On the other hand, yields fell for the 20-year (-9.8 bps) and 25-year (-15 bps) debt papers. On average, yields were higher 33.64 bps during the reference period, according to the PHP Bloomberg Valuation Service Reference Rates published on the Philippine Dealing System’s website.
Meanwhile, the peso averaged P50.83 against the dollar in the first quarter, appreciating 0.39% from the previous quarter’s average of P51.03-to-a-dollar, BSP data showed.
The lockdown largely contributed in the decline in economic output in the first quarter. During the period, Philippine gross domestic product (GDP) declined by 0.2%, ending 84 straight quarters of growth.
On the other hand, headline inflation averaged 2.75% in the first quarter, faster than the 1.6% in the previous quarter, but still fell within the BSP’s then target of 2-4% percent and the now-revised target of 1.75%-3.75% for the year.
VIRUS TO DRIVE MARKETS
With a cure and vaccine far from sight, analysts expect volatility in the financial markets to linger in the coming quarters.
“The global and local macro/corporate data we will see in [second quarter of 2020] would ascertain the severity of the pandemic’s economic impact. Real economic indicators of manufacturing, services, unemployment, inflation, etc. will probably settle to the worst thresholds since the Great Depression in the 1920s,” said Philippine National Bank (PNB) economist Jun Trinidad in an e-mail.
“With data depicting the cyclical bottom, market investors may sense that this is a good opportunity to start accumulating oversold financial assets. However, lacking a post-COVID, v-shaped macro recovery,… financial assets are unlikely to recover materially and may persist in oversold territory for much of [the third-quarter],” he added.
For Bank of the Philippine Islands (BPI) Chief Economist Emilio S. Neri, Jr., volatility in the financial markets “may persist in the coming months given the uncertainties surrounding COVID-19.”
“Another round of stock market sell-off may happen if economies don’t re-open in the next six months. Moreover, emerging market currencies may depreciate if global exports and remittances decline substantially,” he said.
“Even if the quarantine is lifted, fears over the possibility of coronavirus infection may continue to curb the demand for goods and services… The lack of consumer spending will most likely squeeze the cash flow of businesses, both big and small,” Mr. Neri added.
The reduced economic activity would likely lead listed firms to cut or halt altogether dividends.
“Many companies worldwide have already decided to reduce if not totally eliminate dividends in able to conserve cash and help strengthen the financial positions as they maintain a more conservative stance as part of being prudent amid the challenging economic and business conditions… Some companies locally and worldwide have also reduced capital spending for 2020…,” Rizal Commercial Banking Corp. (RCBC) Chief Economist Michael L. Ricafort said.
Below is the summary of analysts’ outlooks for each of the key markets:
BSP: [S]tock market movement and volatility could be affected by the uncertainty over the duration and subsequent impact of the COVID-19 pandemic and the implementation of the extended community quarantine (ECQ).
However, some improvement may be seen due to bargain-hunting and the possibility that areas affected by the COVID-19 under ECQ will be placed under a general community quarantine (GCQ)… Under a GCQ, some companies can start operating again, and consequently, may start to recover, along with the economy.
BPI’s Mr. Neri: So far, we haven’t really seen the full impact of the coronavirus on the economy and it’s possible that current valuations don’t reflect the actual damage brought by the outbreak. Hence, volatility in the local stock market will most likely persist in the coming months.
RCBC’s Mr. Ricafort: The PSEi has already consolidated at the 5,000 levels for more than a month already and appeared to have bottomed out…
Gains in the local financial markets, including the PSEi, could still be driven by relatively low interest rates, increased liquidity in the financial system/economy, massive stimulus measures that help spur greater economic activities as well as further gains in the financial markets.
Nicholas Antonio T. Mapa, ING Bank NV-Manila Senior Economist: Slight improvement from the March swoon.
Ruben Carlo O. Asuncion, UnionBank of the Philippines, Inc. Chief Economist: [With fixed income being preferred over the equities market, companies would] increase capital from the debt market over the equity market. Due to uncertainties in the economy brought by the pandemic, the equity market is seen to remain lower than the pre-COVID-19 levels.
BSP: We expect the bond market to improve in the coming months, supported by the liquidity-enhancing measures deployed by the BSP… Market liquidity has improved in recent weeks and primary market participation has increased following the deployment of liquidity-enhancing measures by the BSP. Nevertheless, investors have continued to show a preference for shorter-dated securities given the uncertainties surrounding the current pandemic.
PNB’s Mr. Trinidad: Fixed income markets would continue to outperform although it would remain a crowded trade particularly in the short duration segment of the curve. The market awaits Treasury’s move to issue in the belly up to the long end of the curve.
BPI’s Mr. Neri: Bond yields may decline further and track the policy rate. However, additional borrowing by the government as part of its COVID-19 response may exert upward pressure on yields.
RCBC’s Mr. Ricafort: Fundamentally, easing trend in inflation partly due to relatively lower global oil prices among 18-year lows has already driven local interest rate benchmarks, especially long-term tenors, to the lowest levels in at least 3.5 years.
Possible further cuts in local policy rates and on banks’ RRR could support a relatively low-interest rate environment… Increased market liquidity locally and globally could help sustain a relatively low-interest rate environment, especially if interest rate/bond yield benchmarks in the US and in other developed countries remained near record low levels at near zero percent or even negative…
ING Bank’s Mr. Mapa: Yields to remain pressured lower as the bevy of liquidity weighs on rates. Liquidity is all dressed up with nowhere to go but the government securities market.
UnionBank’s Mr. Asuncion: Fixed income might be preferred over Equities due to the series of rate cuts and increasing liquidity from RRR rates.
FOREIGN EXCHANGE (FX) MARKET
BSP: For Q2 2020, the peso should continue to reflect emerging demand and supply conditions in the FX market. As such, the impact of weaker inflows on the side of the country’s current account (i.e., decline in exports and capital inflows) should be offset by favorable investor sentiment over the strong position of the economy (relative to other emerging economies) in terms of debt management and FX cover. Furthermore, the peso and financial markets should benefit from the ample policy support coming from the fiscal and monetary authorities.
PNB’s Mr. Trinidad: [Peso] is likely to stay on its prevailing range, if not probe P50, on the back of import compression as broad-based economic activity stalls and likely emergence of a current account surplus.
BPI’s Mr. Neri: Imports and local demand for dollars may remain weak in the coming months. However, remittances may contract this year and push the exchange rate higher.
RCBC’s Mr. Ricafort: The US dollar/peso exchange rate has recently declined to among the lowest levels in two years at 50 levels, despite increased global market volatility, amid record-high gross international reserves equivalent to about eight months’ worth of imports or more than the acceptable international standard of 3-4 months… The peso exchange rate has also performed relatively better compared to other Asian currencies amid the improved economic and credit fundamentals of the country in recent years as manifested by improved credit ratings well into the investment-grade spectrum.
ING Bank’s Mr. Mapa: [Peso] enjoys appreciation pressure on subdued trading volume. Corporate demand to return once lockdowns lifted and import demand to rise, which could pressure [peso] to weaken.
UnionBanks’s Mr. Asuncion: Currently, the peso has been exhibiting strength, and the year-long outlook has been changed from that of depreciation to that of appreciation. The Philippine economy is perceived to be financially strong using certain variables such as public and foreign debt as % of GDP, the cost of borrowing money, and ample foreign currency reserves. These variables have helped the Philippines be seen from a position of strength even amidst the COVID-19 pandemic.