Thursday 12 July 2012

Govt studying feasibility of inflation-linked bonds

MAS examining measure to help savers cope with high inflation rate
By Aaron Low, The Straits Times, 10 Jul 2012

INFLATION-LINKED bonds are being studied by the Government as one option to help savers cope with the high rate of inflation.

But in disclosing this to Parliament yesterday, Minister of State for Education and Defence Lawrence Wong said that such bonds come with risks because if inflation fell, the bonds could fall in value and hurt investors.

Mr Wong, who was speaking on behalf of Deputy Prime Minister and Finance Minister Tharman Shanmugaratnam, noted that inflation for the first months of the year stood at 5 per cent.

This headline figure includes imputed housing rents and sharp rises in car prices and does not affect the average Singaporean directly, he said. Excluding these items, inflation is 3.2 per cent.

At the same time, savers are affected by very low interest rates, which are expected to stay depressed for some time, he noted.

'The Government is mindful of the problems such an environment poses to savers and depositors,' he said.

It is studying measures to alleviate the situation. One such measure that the Monetary Authority of Singapore is looking at closely is inflation-linked bonds.

Such bonds are typically issued by governments to help citizens hedge against inflation. They pay a rate directly linked to inflation.

For instance, such bonds could pay 1 percentage point on top of the inflation rate, giving a 'real return rate' of 1 per cent, said UBS Wealth Management regional chief investment officer Kelvin Tay. He said that in Singapore's case, such bonds could potentially pay out 6 per cent - 1 percentage point plus the current inflation rate of 5 per cent.

'For regular investors, such bonds could be viewed as a means to cope with the high inflation rates and take some froth off the property market, which is used as a hedge against inflation,' he added.

Asian governments in places such as Hong Kong and Thailand have issued inflation-linked bonds, while the United States and Britain have a big market for inflation-protected bonds.

Said Mr Wong: 'For Singaporeans who do not have significant savings, it remains best to keep investments simple and conservative.'

This includes relying on Central Provident Fund savings, which pay up to 5 per cent on savings or buying Singapore Government Securities which are readily accessible to retail investors, he said.

Separately, on the issue of slowing growth, Second Minister for Trade and Industry S. Iswaran said there was no immediate need for the Government to step in to cushion Singapore from the impact of the euro zone debt crisis.

He noted that both job creation and regional demand for exports are still robust.

Weapon to fight ballooning prices
Inflation-linked bonds can boost savers' returns, but Govt right to look at all angles before issuing them

By Aaron Low, The Straits Times, 11 Jul 2012

ON MONDAY, the Government signalled its readiness to consider adding another weapon to its arsenal to help Singaporeans fight inflation.

Monetary Authority of Singapore (MAS) board member Lawrence Wong said in Parliament that the central bank is studying the feasibility of a relatively new form of debt security called inflation-linked bonds (ILB) to help savers raise their returns.

ILBs, which originated in Britain in 1981, have become immensely popular over the past 15 years.

According to HSBC, the market for ILBs has ballooned from US$100 billion in 1997 to more than US$1.8 trillion (US$2.3 trillion) last year, which represents an annual growth rate of 23 per cent.

Issued mostly by governments, these debt securities are simple instruments that work like any type of bond: The holder gets a fixed coupon payout yearly. But unlike other bonds, these ILBs pay rates that are linked to the current inflation rate - also known as 'real yields'.

Given that Singapore and much of Asia is likely to face higher inflation in the next few years, as growth shifts to this part of the world, the announcement could not have come at a better time.

Bankers such as Mr Clifford Lee, DBS Bank's head of fixed income, said issuing ILBs is a sensible idea, given that there is demand for means to help stave off the impact of inflation on savings.

According to MAS statistics, $167.1 billion was held in savings deposits and another $203.7 billion was sitting in fixed deposits at the end of May.

Going by market rates for such deposits, these funds are not earning anywhere close to the prevailing inflation rate.

Inflation has stayed at about 5 per cent for the past 18 months and could stay at an elevated level for some years to come.

The onset of higher inflation also spells trouble for the post-war baby-boomer generation now entering retirement.

More than anyone, they will need to prevent their carefully accumulated retirement funds from being eroded by high inflation.

In these cases, an ILB would help investors diversify their portfolios, give retirees a means to protect their wealth and also deepen the strength of the Singapore dollar bond market, which is something a financial hub like Singapore should aim to do.

ILBs could also help divert some funds away from the property market. Many buyers are attracted to property as it is a good hedge against inflation.

Given the many benefits, why is the Government still so tentative in issuing such bonds, going only so far as to say that it is 'studying' the issue?

To be fair, there are some issues that the Government will have to contend with first.

One is that the demand for such bonds will be strong, maybe a bit too strong.

Regular Singapore Government Securities (SGS) are already attractive to many institutional investors, given the country's triple-A rating.

The yield for 10-year SGS bonds is currently at a paltry 1.44 per cent, indicating high demand for the security.

If the Government issues bonds that may give out 5 per cent to 6 per cent returns, pegged to inflation, the demand from investors would be huge, said UBS Wealth Management regional chief investment officer Kelvin Tay.

'Add to the fact that these bonds are in Singapore dollars which we think will appreciate, and investors, especially from overseas, will be queuing up,' he said.

Investment grade bonds, which are seen as high quality, could also suffer as investors would much rather prefer buying equally high-yielding bonds from a triple-A rated issuer.

'The other question to ask is what the Government will do with all this cash raised. It will not be easy to buy or invest in other securities that could pay the 5 per cent or 6 per cent rates ILBs could pay out,' noted Mr Tay.

Some of these issues could be navigated by structuring the issue of such bonds in a creative manner, said Mr Lee.

For instance, if the worry is that ILBs may end up benefiting foreign institutional investors, the solution could be to prioritise Singaporeans first.

Mr Lee also noted that there is more than enough cash in the system to ensure that there is enough demand for both ILB and corporate bond issues.

The Government has long stressed that it is looking for ways to help Singaporeans cope with fast-rising prices.

Bonds of this nature will go a long way in arming Singaporeans with the right tools to tame the beast called inflation.

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