This article first appeared in The Edge Malaysia Weekly on April 14, 2025 - April 20, 2025
AS US President Donald Trump’s reciprocal tariff stance is expected to heighten global economic uncertainty and amplify “risk-off” sentiment among investors, it could lead to a reallocation of capital away from emerging-market bonds, including Malaysian bonds, in the near term.
RAM Rating Services Bhd head and senior economist Woon Khai Jhek says foreign appetite will remain weak as risk aversion stays elevated in the near term.
“Investors will likely prefer to stay on the sidelines while awaiting more clarity in the current highly dynamic and fast evolving economic and financial market landscape. However, once market jitters subside and foreign investor risk aversion moderates, we might see a return of foreign inflows,” he tells The Edge.
Woon notes that Malaysian Government Securities (MGS) yields may experience some short-term volatility in reaction to the recent US Treasury (UST) rout.
“MGS yields have generally tracked these movements in the past and we expect Malaysian bond yields to also be influenced by UST yields during this period. So, while demand for local bonds might be dampened by risk aversion in the near term, there could still be a period when MGS yields decline as the market prices in the lower UST yields from the dovish US Fed.”
The 10-year UST-MGS yield differential was 33.1 basis points (bps) as at April 4 — compared with 47.3bps as at end-March — as markets began pricing in the US Federal Reserve’s dovish pivot that led to a steep decline in UST yields. The 10-year UST yields fell to 4.01% on April 4 from 4.23% at end-March. As the dovish tilt is largely contained in the US for now, the decline in 10-year MGS yield was softer, reaching 3.68% on April 4 from 3.80% as at end-March.
That said, a violent UST sell-off from the start of last week sent UST yields soaring, with the 10-year benchmark yield jumping to 4.4% as at April 10. Market participants largely attributed the sell-off to hedge funds offloading liquid assets to meet margin calls amid the unwinding of “basis trade”. And this widened the 10-year yield spread to 66.6bps as at April 10.
“However, once this unusual UST rout subsides, the dovish Fed stance in response to a bleaker US economic outlook should continue to help compress yield differentials between MGS and UST,” Woon adds.
DBS Research anticipates further downward pressure in MGS yields in the near term following the US' reciprocal tariffs announcement.
“Malaysia’s small and open economy will also be vulnerable to a global trade slowdown induced by escalating tit-for-tat trade tension,” it says in an April 9 note.
Last month, the local bond market saw a net foreign inflow of RM3.2 billion, reversing the RM1.1 billion net outflow recorded in February, on the back of a solid domestic performance and higher exposure to long-dated government bonds.
This was in contrast to the higher net selling of local equities amounting to RM4.6 billion in March versus RM2.2 billion in February after the Trump administration threatened to impose higher tariffs.
Of the RM3.2 billion of net inflow into the local debt market, MGS recorded a net inflow of RM1.7 billion in March compared with a net outflow of RM200 million in February. This lifted foreign shareholdings in MGS to 32.5% in March from 31.8% in February.
Kenanga Research believes that demand for emerging-market debt will be boosted by the US Federal Reserve’s dovish pause, waning tensions in Eastern Europe and downward revisions to US growth projections.
UOB Global Economics & Markets Research says the short-term outlook for the US bond market points towards continued downward pressure on yields, driven by concerns over a slowdown in economic growth stemming from the tariffs.
“Bond prices could potentially experience further gains as investors continue to seek the relative safety of government debt amidst the prevailing economic uncertainty,” it says in a note last Friday.
The research house says the bond market's initial response suggests that investors are currently more concerned about the potential negative consequences of the tariffs on economic growth than an immediate and substantial surge in inflation.
“If the market anticipates a weakening economic outlook, the demand for safe-haven assets like UST will likely remain elevated, thereby keeping yields lower in the near term. The longer-term outlook remains highly uncertain, contingent on the durability and broader impact of these tariffs on global trade, supply chains and overall economic stability, with a notable risk of stagflationary pressures emerging.”
UOB highlights that several scenarios could unfold for the bond markets.
“If the tariffs significantly impede economic growth over the long term, the demand for safe-haven assets like UST could remain high, potentially leading to continued low yields.
“Conversely, if the tariffs primarily result in sustained and dominant inflationary pressures without a corresponding hit to economic output, bond yields might rise to compensate investors for the eroding purchasing power of their fixed-income investments. The risk of stagflation presents the possibility of volatile bond market conditions, as investors grapple with the conflicting signals of weak growth and elevated inflation,” it explains.
UOB expects 10-year UST yield to end the year at 3.9% from 4.3% previously. It says a deeper collapse in 10-year UST yield to the low 3% region cannot be ruled out should recession expectations become mainstream.
JPMorgan says recession fears in stocks acutely tied to the US economy have spiked to nearly 80%, after the financial services firm warned that the risk of an American and global recession this year had risen to 60% from 40% earlier.
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