Malaysian bonds, ringgit face fresh Fed & BoJ rate headwinds

KUALA LUMPUR: Malaysia's ringgit and bond market may come under renewed pressure if the US Federal Reserve resumes monetary tightening.

This could fuel capital outflows and complicate Bank Negara Malaysia's interest-rate policy, economists said.

The Fed's 25-basis-point hike on Wednesday - its first in more than three years - has heightened market focus on the scope for further tightening and its potential impact on emerging markets including Malaysia.

The move comes as the Fed seeks to contain persistent inflation, including price pressures stemming from elevated crude oil prices amid the US-Iran conflict.

IPPFA Sdn Bhd director of investment strategy and country economist Mohd Sedek Jantan said the decision's significance extended beyond the rate increase itself.

Tighter US monetary policy could raise funding costs and global market volatility, he added.

"Companies with unhedged US dollar liabilities could also face higher repayment costs in ringgit terms if the US dollar strengthens, while tighter global financial conditions could increase borrowing costs and volatility across equity and bond markets," he told Business Times.

At the broader macroeconomic level, however, Sedek said Malaysia's domestic demand, export capacity and relatively contained inflation provided some buffer against external monetary tightening.

For the ringgit, he said the prospect of further US rate hikes could create short-term depreciation pressure through changes in interest rate differentials, US dollar demand and global risk sentiment.

However, he viewed the pressure as temporary and maintained his forecast for the ringgit to reach RM4.05 against the US dollar by year-end.

Sedek said the ringgit will ultimately be driven by Malaysia's economic fundamentals, exports, commodity prices, the current account and the broader US dollar cycle.

He said some capital could be temporarily reallocated towards US assets following the recent sell-off and repricing of US Treasury yields, but he did not view this as a permanent withdrawal of foreign capital from Malaysia.

Sedek said the Fed's decision did not automatically require Bank Negara to raise its overnight policy rate (OPR).

The central bank will consider domestic inflation, economic activity, employment, financial conditions, credit growth and external developments.

He maintained that Bank Negara would keep the OPR at 2.75 per cent for the remainder of 2026.

He also did not expect another US hike for the rest of the year although he acknowledged that the Fed's projections indicate one further increase remains possible.

Pressure From Twin Rate Risks

SPI Asset Management managing director Stephen Innes said Malaysia could face greater pressure on its bond market and ringgit if the Fed continues to tighten, particularly as the Bank of Japan (BoJ) also normalises monetary policy.

He said Malaysian government bonds were already under pressure, while the yield premium over Japanese government bonds had fallen sharply as the BoJ tightened.

"Malaysia is effectively being squeezed from both sides. US yields are high, Japanese yields are rising, and the relative appeal of Malaysian duration is shrinking," he said.

This could increase the risk of foreign bond outflows and repatriation, particularly among Japanese investors, Innes said.

He said Bank Negara was not automatically forced to raise rates simply to defend the ringgit or bond market, but the cost of keeping policy unchanged was rising.

"If bond outflows accelerate, the ringgit comes under sustained pressure, and that begins feeding imported inflation, then the hurdle for a Bank Negara hike becomes considerably lower," he said.

Innes agreed with market pricing for a Bank Negara hike in the first quarter of 2027, although this could be brought forward depending on how aggressively the BOJ tightens.

If the Fed delivers another rate hike later this year, he said it would widen the policy rate differential, keep US yields attractive and potentially make foreign investors more selective about holding Malaysian bonds.

Another hike could also eventually weigh on Malaysia's external demand if tighter US financial conditions slow consumption and investment, although the country's domestic growth would provide some offset.

Innes said another Fed hike, particularly if accompanied by continued weakness in Malaysian bonds and persistent ringgit pressure, would make a Bank Negara hike a more immediate possibility.

Even if Bank Negara did not raise rates immediately, markets could increasingly price a higher-for-longer domestic rate structure, he said.

Innes said the significance of the latest Fed move was less about the 25 basis point increase itself and more about its implications for further tightening.

"Oil is obviously a major part of the inflation shock, and central banks normally try to look through the first round impact of an energy spike," he said.

"But the Fed is signalling that it is not prepared to look through it if higher energy costs start leaking into inflation expectations, wages and broader prices."

He said the shift in expectations could keep upward pressure on short-term US yields and maintain a firm US dollar backdrop.

Innes added that continued normalisation by the BOJ could contribute to a broader global hawkish repricing, adding to pressure on Malaysian bonds.