Regulation and risk environment key to Malaysia's growth

At the end of 2010, Malaysia’s capital markets were worth just over RM2000bn ($670bn), boosted by RM87.5bn in equity and debt issuances during the year. On that basis, it still lags behind Asian capital markets such as Hong Kong and South Korea. But Malaysia punches above its weight in south-east Asia as a hub for raising funds. Its compounded capital-markets growth rate averaged 11% from 2000 to 2010, according to Maybank, the largest lender in Malaysia.

In terms of product mix, 63% is in equity, with the remainder in fixed income, mostly government and government-backed corporate bonds. Bankers say the bond market has plenty of liquidity and enough daily turnover to appeal to international portfolio investors. As a ratio of gross domestic product, Malaysia’s bond market is already the third largest in Asia. It also has a strong claim to be a global leader in Islamic finance, a niche that has served Malaysia well.

Malaysia’s prime minister, Najib Razak wants to reposition Malaysia as an international financial centre. To this end, he recently unveiled a 10-year capital-markets development programme, dubbed 'CMP2', with the ambitious target of tripling its current size. As it stands, the market is forecast to reach RM4500bn by 2020 – not bad, but a minnow in global terms.

International markets

To accelerate that pace of expansion, Malaysia needs “greater internationalisation”, Mr Najib told an investment conference in Kuala Lumpur on April 12. He promised to streamline regulations on fundraising, venture capital, business approval and other regulatory issues. He also told a packed audience that the government would introduce a dual-licensing system for equity dealers to trade in derivatives markets. He promised a new framework for private pension schemes would be in place by the end of the year, giving financial institutions access to a sizeable pool of savings.

“The theme for CMP2 is growth with governance, capturing the essence of Malaysia’s journey towards becoming a developed nation because we must do everything we can to ensure that Malaysia’s capital market doesn’t just grow, it grows with minimal risks in a well-regulated environment,” Mr Najib said at InvestMalaysia, an annual conference organised by the Kuala Lumpur stock exchange. 

After the 1998 Asian financial crisis, Malaysia began to shift gears from foreign direct investment-led industrialisation to a more balanced strategy with more emphasis on services, including the financial sector. The banking sector has charted a steady course in recent years and came out of the global recession in good shape, thanks to conservative balance sheets and proactive regulation by Bank Negara Malaysia, the country's central bank.

Investment bankers complain that Malaysia’s cautious approach has failed to generate the kinds of cross-border deals that investors have seen in other emerging markets. Foreign investment recovered last year after a steep fall in 2009, but it remains well below the levels recorded before the 1998 crisis. For portfolio investors, another concern is secondary liquidity on the Kuala Lumpur stock exchange and the participation of government-linked companies. Analysts say that boosting liquidity is essential to deepen Malaysia’s capital markets.

Boosting liquidity

This is starting to change under Mr Najib, who took power in April 2009 and has put privatisation higher on the government’s agenda. In his speech, Mr Najib promised to press ahead with divestments of government holdings in listed companies and to lease more public land to private investors. He also said that a state-run sugar refinery was being prepared for an initial public offering in July.

Last November, Malaysia’s state oil company Petronas listed its petrochemicals unit, raising RM12.5bn in the country's biggest initial public offering of the year. Investors are waiting to see who will snap up a 32% stake in national postal company Pos Malaysia held by Kazanah Nasional, the state holding company that has stakes in many blue-chip stocks. Analysts note that Kazanah has been reducing its equity holdings since last year, giving a boost to liquidity and raising the market’s profile for institutional investors.

“Apart from the big-ticket divestments, we’ve seen a steady amount of stake sales by Kazanah in some of the Malaysian companies. It has been gradually reducing its stakes,” says Rahul Bajoria, a regional economist at Barclays Capital in Singapore.

Reducing the deficit

As well as boosting market liquidity, these divestments are helping to reduce Malaysia’s fiscal deficit, which is forecast at 5.3% in 2011. Barclays Capital estimates that combined proceeds from privatisation could exceed $10bn in the next year, assuming that planned divestments are completed.

“It’s a well thought-out plan, and it’s being executed as we go along. There are still sceptics on the ground, but there seem to be more believers,” says Clare Chin, head of research for CLSA Securities in Kuala Lumpur.

While Malaysia promotes itself as an international financial centre, its largest banks are extending their footprint into Indonesia and, to a lesser extent, China and Thailand. Banks are also looking to tap growth in other capital markets in south-east Asia. In January, Maybank agreed to acquire Singapore’s Kim Eng Holdings for S$1.8bn ($1.46bn). Its local rival, CIMB Group Holdings, owns a regional Singapore-based brokerage, GK Goh, which it bought in 2005.

Naturally bankers see such diversification as a strategy for putting their capital to work. But it also raises the question of whether Malaysia’s liberalisation policy has been sufficiently bold, particularly when compared with arch rival Singapore, which has the most mature financial markets in south-east Asia.

One factor that may obstruct the evolution of more dynamic fundraising and asset management services in Malaysia is the status of its currency, the ringgit. Unlike the Singaporean dollar, the ringgit is not fully convertible, a legacy of capital controls imposed in 1998 during Asia's financial crisis. At the time, Malaysia declined to accept help from the International Monetary Fund. Instead it sought to peg the ringgit by imposing a set of capital controls to restrict inflows and outflows. While most of these controls have been relaxed, Bank Negara Malaysia continues to restrict the circulation of ringgit outside the country. 

Mr Bajoria says that Malaysia recognises the need for greater currency flexibility to bring in more foreign investment. "[The policy-makers] do see the benefits of liberalising the currency. But at the same time, they want to see safeguards and approval guidelines already in place,” he says.