FXTM: Ringgit undervalued as traders oversell on headline risks

The PPP metric indicates that the fair value of the ringgit is undervalued by over 60% against the greenback, says analyst


NEWS headline-driven risks have caused the ringgit to be severely undervalued against the US dollar, reversing most of the gains noted by the Malaysian currency during the first quarter of 2019 (1Q19).

FXTM market analyst Han Tan said the purchasing power parity (PPP) metric indicates that the fair value of the ringgit is undervalued by over 60% against the greenback.

He said external factors are now the primary drivers when it comes to ringgit fluctuation, while domestic factors weigh significantly less in comparison.

“Currency markets are primarily focused outwards and paying less attention to what is happening onshore, be it economic data or the headlines or noise happening onshore,” he told a media briefing yesterday.

Robust domestic economic supports, coupled with monetary easing from the US and European central banks, drove the ringgit to be the second-best performing Asean currency against the greenback in 1Q19 at a 1.21% return.

However, news that the FTSE Russell may drop Malaysian bonds from its World Government Bond Index and the potential exit of Norway’s sovereign wealth fund from Malaysia’s bond market have since seen the ringgit come under heavy selling pressure.

The local note is currently the worst performing Asean currency in April, trading between RM4.12 and RM4.13 against the US dollar yesterday at a flat year-to-date (YTD) gain, largely owing to these headline risks.

Han said the developments add risks to the ringgit as global funds and investors will take all aspects into account before committing an investment.

“Those headlines add an element of risk. However, I think this is very crucial, the ringgit remains supported by Malaysia’s resilient domestic fundamentals.”

He added that risk appetite is still present in the market, but traders are wary of these developments on top of concerns over global trade and growth.

Han said the oversell is, in spite of an otherwise resilient Malaysian economy, due to traders being wary of prospects of significant outflows in the Malaysian bond market and a slowdown in global growth.

Domestically, Han said Malaysia’s economy remains resilient on export growth, a healthy current account surplus and expectations of headline inflation to remain manageable in 2019 despite dipping to negative territory in January and February.

The country’s March Consumer Price Index (CPI) revealed a marginal but positive 0.2% growth, and Han

said the CPI numbers will read better in 4Q19 as the base effect gradually adjusts to the Sales and Services Tax.

According to Han, markets have largely priced in a US-China trade in May so any gains noted by the ringgit will be limited, but the US-European Union trade fears have also crept into the market.

Bank Negara Malaysia (BNM) is also widely expected to cut the Overnight Policy Rate next month to manage the domestic economy in fending off these external risks.

Han said BNM opting to lower the interest rate risks weakening the ringgit, only if the rate cut is done in isolation and not in sync with other major central banks.

Meanwhile, the impact of rallying crude oil prices on the performance of the ringgit has been limited. This is in spite of oil prices typically bolstering the commodity-linked currency.

Han said this is due to the Brent crude oil only rising to above US$70 (RM289.10) per barrel, perceived as a key threshold for Malaysia (a net exporter of oil) in April this year.

Note that the federal government budgeted an average Brent of US$70 per barrel for 2019.

It is estimated that every US$1 rise above the US$70 per barrel mark will translate into an additional RM300 million in revenue to the government, though the inverse holds true as well, Han said.

YTD, Brent crude oil is up 37.8% at above the US$74 per barrel mark.