The domestic bond market in Vietnam has grown over twice as fast as any of its contemporaries in Asia over the past year. More supply is to come, as the government attempts to stimulate the economy, which will bring in increasing numbers of foreign insurance companies and help develop the market.
Vietnam’s domestic bond market grew 53.3% year-on-year, making it the fastest growing bond market in Asia, followed by Singapore (17.3%) and Indonesia (13.9%), according to the Asian Development Bank (ADB).
The growth is from a low base. The market is small by regional standards, but it has almost tripled from US$12.3 billion in the first quarter of 2010 to US$30.2 billion by the end of the first quarter of 2013. The growth has come entirely from the government sector. The onshore corporate bond market has declined in size and is now worth only US$1.1 billion.
One of the reasons for the increase in supply, is expectations that there is not much room left for further interest rate cuts. The central bank has cut rates eight times since the start of 2012. The refinancing rate is now 7%, down from 8% in May. Another reason for more issuance is bank demand.
“The market surged in part because of high demand from banks. Commercial banks have been relatively reluctant to lend given the weak economic conditions, while lending by the more aggressive banks has been hemmed in by State Bank of Vietnam (SBV) credit growth limits of 12%,” said Graeme Cunningham, head of Indochina research at KT Zmico.
Instead, banks are increasingly using excess capital to buy relatively safe government bonds. On the supply side, the government is likely to be forced to increase its bond issuance programme even further in order to help stimulate the economy.
“Tax revenues have and will continue to take a hit because of falling corporate taxes, due to struggling businesses and proposed lower taxes, as well as from lower expected personal income taxes, with higher tax deductions starting in July,” said Tu Vu, associate director of research at Viet Capital Securities (VCSC).
“Because of this, it's almost certain the government will need to issue more debt. It's an option the new Ministry of Finance has stated that is certainly on the table.”
Market development
It is not only Vietnamese banks buying the debt. There has also been an increase in interest from foreign insurance companies, according to Vu.
“More and more insurance companies are entering Vietnam. One of the attractions of Vietnamese bonds is that there are fairly few restrictions or limits on foreign investment. This makes them easy to invest in, unlike equities where many quality companies are out of foreign reach,” he said.
The strength of demand has pushed the sovereign one-year yield to its lowest level since 2006. The sovereign sold VND2 trillion (US$95 million) of one-year bonds to yield 5.68% on June 4. This compares to 6.03% at the auction on May 20, according to Bloomberg. The five-year yield fell to 7.64% on the same day, the lowest since August 2007. Analysts believe that appetite is likely to remain strong.
“For the time being, Vietnamese bonds, even at historically low yields, still remain attractive vis-a-vis other countries, in part due to the stability of the dong in the past two years. Personally, I think the stability will continue because of structural changes that have reduced dollarisation in the country,” said Vu.
The currency has been stable against the dollar, trading between 20,500 and 21,100 since October 2011, due to a trade surplus and active monetary policy.
Another support for the bond market is that banking sector recovery is likely to be slow. Once the economy recovers, banks will want to sell government bonds to free up money for lending. However, this is unlikely to lead to a crunch, said Alfred Chan, director of financial institutions at Fitch Ratings, as deposit growth will likely pick up in tandem with an economic upturn.
“Risk appetite is still low. The lending environment is not looking rosy and is not likely to improve dramatically any time soon, so the shift from government bonds back to loans will happen slowly at the same time as an increase in deposits,” he said.
“When things do improve the SBV could help the market by buying back the bonds. In addition, foreign investors should return as the economy stabilises,” said Marc Djandji, partner at Asean Insider.
However, Fitch’s Chan argues that banks would do well to keep some of the bonds on their books.
“Headline loan-to-deposit ratios in Vietnam have always been quite high, as banks used to channel almost everything from deposits straight into loans. They can’t buy more government bonds indefinitely, there needs to be some balance, but at this point their liquidity profiles have been improving,” he said.
On the question of whether or not the government has enough space to continue increasing its deficit, analysts are undecided.
There's a difference in opinion on how much Vietnam has in public debt. The government says it’s 55% of GDP, others say it’s twice the amount. Either way, the level of debt would seem high in relation to others in the region,” said Vu.
“However, we must also take into account that Vietnam is growing at a faster rate than others, so a higher debt level would seem reasonable. The question is how much higher.”