Session 1

Development of Asian Bond Markets:

The Latest Progress andUpdate

Mr. Masato MiyachiSenior Advisor

Office of Regional Economic Integration (OREI)

Asian Development BankMay 29, 2006

AFDC WORKSHOPShanghai, China

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OutlineOutlineI. Bond Market Overview for 2005

II. Financial Market Deepening

III. Bond Market Integration

IV. ADB’s Experience in the Asian Bond Markets Initiative

V. Issues and Challenges

VI. Moving the ABMI Agenda Forward

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I. Bond Market Overview: 2005 Key Messages• Emerging East Asian local currency bond

markets expanded in absolute size as well as a percentage of GDP in 2005.

• However, 2005 growth was moderate relative to growth in 2004, for both government and corporate bond markets.

• Interest rates increased in most markets; yet yield curves flattened in all markets.

• Bond index returns fell in 2005 in comparison to 2004.

• Government reforms continued to promote product innovation and improve market access for bond issuers.

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Market performance•Compared to its performance over the last 10 years (1997 – 2005), size of local currency bond market has increased about 5 folds, albeit at a slower pace

•Emerging East Asia’s local currency bond market growth moderated in 2005.

1997 2004 2005Amount Amount Amount

($ billion) ($ billion) ($ billion) 1997 - 2003 2004 2005

PRC 116.40 527.70 633.03 20.94 19.82 19.96Indonesia 4.60 57.70 47.26 43.52 (12.18) (18.09)Malaysia 57.00 110.70 121.79 9.95 12.02 10.01Philippines 16.92 35.30 41.08 11.08 16.03 16.38Singapore 23.77 79.39 83.43 18.80 18.09 5.08Korea 130.37 567.70 637.86 23.39 27.24 12.36Thailand 10.47 68.00 80.32 30.64 13.79 18.11Viet Nam - 3.78 5.20 31.39 37.68

Total Emerging East Asia 359.53 1,450.27 1,649.97 22.05 19.72 13.77

Annual Growth Rate (%)Market

Size of Emerging East Asian Local Currency Bond Markets

Source: ADB Asian Bond Monitor, March 2006

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•Emerging East Asia’s bond market as a percentage of GDP continues to grow and has nudged to a ratio closer to 50%, a significant increase from 16.54% in 1997

Size of Emerging East Asian Local Currency Bond Markets (% of GDP)

1997 2004 2005

PRC 12.22 27.32 34.85 Indonesia 1.94 22.80 16.82 Malaysia 56.36 93.56 93.24 Philippines 20.50 41.00 42.02 Singapore 24.79 73.80 71.47 Korea 25.07 83.34 83.03 Thailand 6.65 42.09 46.43 Viet Nam - 8.32 9.85

Total Emerging East Asia 16.54 42.85 48.02

MarketAmount Outstanding

(% of GDP)

Source: ADB Asian Bond Monitor, March 2006

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• Fiscal consolidation in 2005 reduced government bond market growth in most countries, with the key exception of PRC,Philippines and Vietnam.

Growth of Emerging East Asian Local Currency Government Bond Markets (%)

(20) (10) 0 10 20 30 40 50

Emerging East Asia

Viet Nam

Thailand

Korea

Singapore

Philippines

Malaysia

Indonesia

PRC 2004 2005

Source: ADB Asian Bond Monitor, March 2006

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•There has been a slowdown in corporate bond market growth except for Thailand and Malaysia.

Growth of Emerging East Asian Local Currency Corporate Bond Markets (%)

(20) 0 20 40 60 80 100 120 140

Emerging East Asia

Thailand

Korea

Singapore

Philippines

Malaysia

Indonesia

PRC 2004 2005

Source: ADB Asian Bond Monitor, March 2006

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Evolution of Size and Composition of Emerging East Asian Local Currency Bond Markets, 1997-2005

(in billion US dollar)

- 200 400 600 800 1,000 1,200 1,400 1,600 1,800

2005

2004

2003

2002

2001

2000

1999

1998

1997

Government Corporate

• Overall, size and composition of East Asia local currency bond market has increased almost 5 folds since the 1997 financial crisis.

Source: ADB Asian Bond Monitor, March 2006

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Average % of bonds issued in FCY Selected East Asian Countries (1997 - Jun 2005)

• Proportion of foreign currency (FCY) bond issued in selected East Asian markets * had decreased about 12% since the 1997 financial crisis.* Comprising China PRC; Hong Kong, China; Korea; Indonesia; Malaysia, Singapore, the Philippines, Thailand

Source: http://asianbondsonline.adb.org

0

5

10

15

20

25

30

35

1997 1998 1999 2000 2001 2002 2003 2004 2005(Juneonly)

Year (1997 - Jun 2005)

%

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• Turnover ratios in government bond markets remained relatively stable in 2005. Corporate bond market turnover generally fell from already low levels.

Government Bond Turnover Ratio Corporate Bond Turnover Ratio

- 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0

Viet Nam

Thailand

Singapore

Malaysia

Korea

Indonesia

PRC

2004 2005

- 0.2 0.4 0.6 0.8

Thailand

Malaysia

Korea

Indonesia

2004 2005

Source: ADB Asian Bond Monitor, March 2006

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• In 2005 and early 2006, short-term interest rates rose in most emerging East Asian markets in response to hikes in US interest rates and inflationary expectations resulting from high commodity prices.

Rate Jan-05 Mar-06PRC CHIBOR 1 Month 1.770 1.800 Indonesia JIBOR 1 Month 7.444 13.125 Korea KORIBOR 1 Month 3.250 4.030 Malaysia KLIBOR 1 Month 2.810 3.400 Philippines PHIBOR 1 Month 7.938 6.938 Singapore SIBOR SGD 1 Month 1.375 3.375 Thailand BIBOR 1 Month 2.270 4.610

Hong Kong, China HIBOR 1 Month 0.276 4.061 Japan TIBOR 1 Month 0.061 0.093 US Federal Funds Target Rate O/N 2.250 4.500

MarketShort-Term Interest Rates

Source: ADB Asian Bond Monitor, March 2006

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• Notwithstanding increases in interest rates, yield curves have flattened in all bond markets in Emerging East Asia.

Jan-05 Mar-06PRC 2-yr vs 12-yr 230 93 Indonesia 2-yr vs 10-yr 190 54 Korea 3-yr vs 10-yr 62 42 Malaysia 3-yr vs 10-yr 172 48 Philippines 2-yr vs 10-yr 250 106 Singapore 2-yr vs 10-yr 130 56 Thailand 2-yr vs 10-yr 210 23

Hong Kong, China 2-yr vs 10-yr 265 29 Japan 2-yr vs 10-yr 132 114 US 2-yr vs 10-yr 111 (3)1. As slope approaches zero, the yield curve flattens .2. Negative slope denotes inverted yield curve.

MarketYield Curve Slopes

(in basis points)

Source: ADB Asian Bond Monitor, March 2006

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Recent Policy Initiatives

• Emerging East Asian governments continued to take initiatives to promote product innovation and improve market access for issuers.

- Internationalizing the issuer base (SIN, MAL, THA)

- Increasing securitization issues (most markets)

- Regulatory reforms to clear issuer bottlenecks (PRC, KOR, PHI)

- Credit enhancements under ABMI (INO)

- Promotion of Islamic instruments (MAL, SIN, INO)

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Internationalizing the issuer base • First SGD bond issues by Middle East and Central

Asia issuers• Issuance by international organizations in PRC,

Philippines, Thailand and Malaysia

Increasing securitization issues • Collateralized loan obligations (CLO) in PRC• First securitization issue backed by credit card

receivables with subordinated tranches (Thailand).

Credit enhancements under ABMI• PT Summit Oto Finance (Indonesia) issued

commercially guaranteed bond, with a secondary guarantee from JBIC (Follows a similar issue in Thailand in 2004 for Tri Petch Isuzu Sales).

Initiatives Examples

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II. Financial Market Deepening – An

International PerspectiveKey Messages• Over time, at the global level, financial deepening

is happening at an increasing pace.• Emerging East Asia is generally outperforming the

rest of the world in the pace of financial deepening.

• The degree of financial deepening varies across the countries of Emerging East Asia, therefore, the type of financial market that has developed also varies within each country and across countries.

• East Asia’s financial sector is still unbalanced in favor of banks, but so are most countries, not only among the emerging markets (EMs), but even those with mature markets (MMs).

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Major Findings

• The strength of most East Asian economies is in the Bank sector as well as in the Equity Market

• The main area for improvement for most East Asian economies is in the corporate bond market

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Policy Implications

• Economies that are below the average in corporate bond market deepening have to work harder, and put in place appropriate policies.

• There is still a room for East Asia’s corporate bond market to deepen through further policy initiatives like ABMI and ABF.

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III. Bond Market Integration

1. Globalization and Financial Integration

• Financial integration has progressed in East Asia through financial market liberalization and opening and through capital account liberalization

• This process has been accompanied by the general trend of globalization, particularly financial globalization

• The degree of market opening and capital account liberalization varies across countries

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2. Measures of Bond Market Integration• Bond Market integration remains low in East Asia

- Cross-market differentials in interest rates and bond yields are significant

- Intraregional cross-border portfolio investment is small relative to the region’s total cross-border portfolio flows

A result of institutional and regulatory barriers; relative small size of bond market; high concentration ratio, low liquidity; structural weakness of region’s financial market

• Yet, there is some progress toward greater bond market integration

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• Intraregional cross-border portfolio investment is growing. A higher proportion of the region’s total cross-border equity capital is invested intraregional compared with cross-border fixed-income capital.

Cross-Border Portfolio Flows in USD Billion, 2003

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3. Need for Regional Financial Cooperation

• Regional financial integration requires regional financial cooperation.

• Three pillars of financial cooperation

- Liquidity support facility (Chiang Mai Initiative, CMI) to contain currency attacks, contagion and crises

- Surveillance mechanism for information exchange, regional surveillance, policy dialogue, and peer pressure for better policies

- Asian bond market development (ABMI and ABF)

Exchange rate policy coordination will be necessary

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IV. ADB’s Experience and IV. ADB’s Experience and the the

Asian Bond Markets Asian Bond Markets InitiativeInitiativeABMI Working Groups:

1. Creating New Securitized Debt Instruments

2. Credit Guarantee and Investment Mechanisms

3. Foreign Exchange Transactions and Settlement Systems

4. Issuance of bonds denominated in local currency by MDBs, Government agencies and Asian Multinational Corporations*

5. Rating Systems

6. Technical Assistance Coordination Group*

7. Ad-hoc Support Team to the ABMI Focal Group* Due to reorganization in 2005, there are now only four working groups. WG4 has

wrap up and WG6 now reports to the Ad-hoc support team to the ABMI Focal Group.

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ADB currently provides Technical Assistance (TA) to the following working groups:

1. Creating New Securitized Debt Instruments: Completed TA on ASEAN+3 Regional

Multicurrency Bonds and currently exploring Phase 2 (ASEAN+3 Regional Basket Currency Bonds)

2. Credit Guarantee & Investment Mechanism Completed TA on ASEAN+3 Regional

Guarantee Mechanism and moving on to Phase 2

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3. Foreign Exchange Transactions and Settlement Systems Completed TA on ASEAN+3 Regional Settlement Linkage and moving on to Phase 2 (Minimizing Foreign Exchange Settlement Risk in ASEAN+3 countries)

4. Rating Systems Exploring study on Impact Assessment of IOSCO and Basel II on Domestic Credit Rating Agencies in ASEAN+3 Countries Supporting the Association of Credit Rating Agencies in Asia (ACRAA)

5. Ad-hoc Support Team to the ABMI Focal Group Established and currently maintaining the Asianbondsonline website; Publication of Asia Bond Monitor Completed study on establishing an Asian Bonds Standards

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AsianBondsOnlineAsianBondsOnline• An ASEAN + 3 initiative supported by the ADB and funded

by the Government of Japan.

• A one-stop information clearinghouse of information on sovereign and corporate bonds.

• Well accepted in the market by both market practitioners and professionals as well as the research and academe. It is provided free of charge by the ADB to the general public.

• Countries covered are Brunei, Cambodia, People’s Republic of China including Hong Kong, Indonesia, Japan, Republic of Korea, Lao PDR, Malaysia, Myanmar, Philippines, Singapore, Thailand and Viet Nam

• Website is updated daily and contains data on current market activities, legal and regulatory framework of each market, monitors government policies and initiatives affecting the industry

• Contains information and updates on the ABMI

• Website Link is as http://asianbondsonline.adb.org/regional/regional.php

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Also supported previous ABMI WG 4 – concluded a paper on Developing the Market for Local Currency Bonds by Foreign Issuers: Lessons for Asia (Feb 2005)

Recent ADB Bond Issuance in Local Currency: Recent ADB Bond Issuance in Local Currency: Philippines (Oct 2005) – PHP2.5 billion China (Oct 2005) – RMB1 billion Thailand (May 2005) – THB400 billion Malaysia (Dec 2004) – MYR400 million Hong Kong (Jun 2004) – HK$ 1 billion Singapore (Jun 2004) – S$ 200 million India (Feb 2004) – INR5 billion Malaysia (April 2006) - MYR 3.8 billion

MTN

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V. Issues and Challenges

1. Despite increases in bonds outstanding, market liquidity is static.

2. Timely information flow about issuers to investors still needs improvement

3. Investor diversity is still low, potentially compressing risk premiums and impacting on development.

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Improvement to liquidity• Encourage governments to prioritize bond

market liquidity as a development goal • Establish bond pricing agencies to set guide

and revaluation prices for both liquid and illiquid issues

• Encourage more immediate transaction information.

- 30 minute delayed data rather than end of day

- Market bid/offer data in addition to revaluation data.

• Accelerate derivative instrument development and exchange traded debt instruments

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Improve information flow on issuers to investors• Define the rights and obligations of credit

rating agencies• Make yearly ratings guidance compulsory

for issue sizes above a threshold• Encourage more regular issuer reporting

to the bond market Low Investor Diversity

• Encourage other investor classes including international financial intermediaries

• Reduce percentage of compulsory investment in local currency fixed income products by Provident funds and insurers.

• Rationalize transaction barriers for foreign investors

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A case for regional cooperation• Asia is fast growing• Asia has increasing reserves• Asia is typically characterized with

high savings • Yet, subject to financial vulnerability• Asia’s savings are NOT being recycled

back INTO Asia. Savings are deposited to local bank funneled into international financial centers then back to the region

There is still room for East Asia’s bond market to deepen through regional cooperation initiatives like ABMI and ABF.

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VI. Moving the VI. Moving the ABMI Agenda ForwardABMI Agenda Forward

ADB has created Office of Regional Economic Integration, April 2005

• Creating enabling environment for – domestic and– cross border investment

• Enhancing capacity building • Generating Interest for Asian Bonds• Playing a catalytic role in facilitating more

dialogue between public and the private sector

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A Possible Roadmap ……..A Possible Roadmap ……..• Although Asia’s bond market deepening has

performed better than other parts of the world, there is still room for development & improvement.

• While Europe holds many important lessons for Asia’s bond market cooperation & integration process, Asia may have its own Model for Asian Cooperation & Integration.

• As ADB President Kuroda says: Our objective – Not to create a "fortress

Asia", but a highly, integrated Asia that is open to the rest of the world as well

Asia should increasingly act regionally while continuing to think globally.

For More InformationMr. Masato Miyachi

Senior Advisor

Office of Regional Economic Integration

mmiyachi@adb.org

+63-2-632-5419

http://asianbondsonline.adb.org

www.adb.org