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Rising interest rates rock financial markets in Q3

By Abigail Marie P. Yraola, Researcher

PESO DEPRECIATION, rising interest rates, and high inflation swayed financial markets in the Philippine landscape in the third quarter, indicating a gloomy outlook for the rest of the year.

The barometer Philippine Stock Exchange index (PSEi) closed the third quarter with 5,741.07. This was lower by 6.7% quarter on quarter from 6,155.43 seen in the April-to-June period.

In the third quarter, Treasury bill auctions saw total subscription amounting to P397.6 billion while around P130.4 billion was the aggregate offered amount.

However, the oversubscription amount of P267.2 billion was lower than the P333.8 billion in the previous quarter.

Demand for Treasury bonds remained robust during the period as total subscription reached P1.2 trillion more than double compared with the offered amount of P477.7 billion.

At the secondary bond market, domestic yields saw an increase of 76.7 basis points (bps) on average in benchmark government securities as of end-September compared with end-June levels, based on the PHP Bloomberg Valuation Service Reference Rates published on the Philippine Dealing System’s website.

In the third quarter, the Philippine peso weakened against the US dollar. In October alone, the local unit touched its P59-to-a-dollar record low three times, data from the Bankers Association of the Philippines showed.

Meanwhile, the Bangko Sentral ng Pilipinas (BSP) data showed the peso averaged P57.4338 against the greenback in September weakening from P50.1421 last year.

On an end-of-period basis, the local unit finished at P58.910 versus the dollar in September, weaker than P50.959 a year ago.

The third quarter saw local financial markets affected by both domestic and global economic developments such as the aggressive monetary tightening of the US Federal Reserve (US Fed) to contain stubbornly high inflation.

Aside from this, the deterioration of global growth outlook due to the policy tightening was also a factor which caused weaker global demand and risk aversions brought by geopolitical tensions, BSP said.

Mirroring the developments abroad, the Philippines also hiked its key rates. Since May, the BSP has delivered a cumulative 350-bp hike to benchmark interest rates, the latest of which was the half-percentage-point increase on Dec. 15.

Unless these developments are tempered, the country will see continued challenges in balancing inflation rate-interest rate-exchange rate, Asian Institute of Management economist John Paolo R. Rivera said.

“Strong economic leadership is needed to temper excessive movements in these macroeconomic variables,” Mr. Rivera said via e-mail.

EFFECTS OF WEAK PESOWith a sluggish peso, consequences are to be expected as there are sectors who may have profited from it and, in turn may have been affected by it.

“A weaker currency in theory will make exports more attractive as its international price dips, making it cheaper on the global market,” Nicholas Antonio T. Mapa, ING Bank N.V. Manila Branch senior economist, said.

Mr. Mapa also added that, on the other hand, the diminishing peso is “also beneficial for recipients of remittances as each dollar sent home is worth more in peso.”

However, with the peso weakening, demand for exports may increase, which also makes foreign debt costlier to pay back.

UnionBank of the Philippines, Inc. Chief Economist Ruben Carlo O. Asuncion said that sectors that primarily relies on exports will benefit the most from a diminishing peso, while sectors that are net importers will feel the brunt of the adverse effects of the local unit shrinking.

“The transport sector will most likely be one of the sectors most affected due to not only the increase in the price of imported transported equipment, but also for fuel as well,” he said in an e-mail.

BSP said that it will act decisively as peso depreciation fuels inflationary pressures.

When the US Fed started to hike interest rates aggressively to curb inflation, demand for the dollar increased.  The greenback determines how global markets and currencies move as it is the world’s reserve currency.

The BSP said the financial markets around the world have been disrupted by the strong US dollar, which has caused other currencies to depreciate.

“The BSP does not normally react too much to movements in the exchange rate in keeping with our market-determined exchange rate policy,” BSP Governor Felipe M. Medalla said during a virtual convention hosted by the Chamber of Thrift Banks in October.

The BSP chief added that BSP view such moves as healthy market adjustment that sets appropriate signals to producers and consumers.

With the peso depreciation, risks to the outlook of the economy and inflation in the country is plausible.

“This is an issue: monetary policy is not really meant to be announced over and over again as it has the tendency to create speculations that will further disrupt the market,” said Mr. Rivera.

For UnionBank’s Mr. Asuncion, the economy is expected to once again slow down for the remaining quarters due to rate hikes slowing the growth of the economy while positive effects of policy tightening by the BSP will be experienced in 2023 where inflation will be expected to decrease the following year.

INDICATORS TO CONSIDER AND RISKS TO OUTLOOKAnalysts cautioned to continue monitoring trends related to recession, and to watch out for factors such as inflation, monetary tightening, and exchange rates in the next few months to gauge the country’s trajectory to recovery.

“Rate hikes are designed and intended to slow growth in order to produce slower inflation,” said ING’s Mr. Mapa.

The Philippine economy, said Mr. Rivera, can thread persistent headwinds alluding its resilience despite its vulnerability to local and foreign economic developments.

“It easily bounces back because of strong macroeconomic fundamentals that has been installed by previous administrations and BSP governors,” he added.

For ING Bank’s Mr. Mapa, growth in the country will likely slow as 2022 ends and not revert to pre-COVID form of growth as the triple threat caps growth potential.

He pointed out that outlook for next year is quite bleak as well.

“As the US Fed reiterated its commitment to continue its rate hikes well into the following year, albeit at a slower rate, it will take some time for the Philippine economy to return to its pre-pandemic levels,” he said.

He sees the country’s economy to show “small signs of growth” coming into next year due to the repeated rate hikes.

The central bank affirmed these prospects as it expects the economy to sustain its recovery momentum, but downside risks may be increasing due to developments in the external environment.

The BSP reiterated that the Philippine economic growth target for this year remains at 6.5-7.5%.

“The economy has sufficient recovery momentum, which provided the BSP room to tighten monetary policy aimed at bringing inflation back to the government target,” BSP said.

With these insights, how will the local financial markets hold up or perform in the fourth quarter?

FOREIGN EXCHANGE MARKETBSP: The peso is expected to continue reflecting demand and supply conditions in the foreign-exchange market, driven largely by changes in the US Fed’s monetary policy.

Mr. Mapa: The peso may be on the backfoot as dollar strength is expected to persist.

Mr. Asuncion: Expect the dollar-peso to continue trading at around the P58-P59 level. This is a result of the expectation that subsequent rate hikes by the central bank will match those of the Fed’s to prevent the peso from trading at P59-P60 range and even possibly hit the P60 mark.

EQUITIES MARKETBSP: High domestic and global inflation and the depreciation of the peso will continue to weigh on the PSEi as continued market concerns over aggressive monetary tightening of the US Fed.

Mr. Mapa: Equity markets may still be supported by decent earnings as the Philippines manages to eke out decent growth despite the challenging environment.

Mr. Asuncion: Per what we can see in recent months, the PSEi has performed better following a rate hike by the central bank. Thus, expect the PSEi to perform better in [the fourth quarter] and maintain its upward trajectory.

FIXED-INCOME MARKETBSP: Domestic yields are likely to continue their upward trend given expectations of further rate hikes. Moreover, continued market uncertainty is likely to drive investors toward safe assets such as government securities, which can be seen in the high subscription rates consistently seen in the weekly auctions by the Bureau of the Treasury.

Mr. Mapa: Bond yields are expected to rise on prospects for inflation. Government will also need to borrow more, which could exert additional pressure on yields to move higher. 

Mr. Asuncion: With expectations of another rate hike by the central bank, expect short-term bonds to be more profitable, as increase in interest rates would mean that the price of existing bonds will decline, and newer bonds will be more profitable.

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