Macro Strategy

Decoding the Divergence

 

  • Flattening yields on growth concerns have propped up bonds while equities falter, with the JCI falling rapidly despite yields still at sub-7%.
  • The correlation between the 10-year yield and JCI performance, historically strong, is now weakening. Four factors explain this shift.
  • The latest BRI SMSE Business Index saw moderation across sectors, although optimism remains on seasonal Ramadan demand.

 

Growth Conundrum. With growing concerns over economic slowdown, US Treasury yields have experienced a flattening trend, where long-term yields have declined more rapidly than short-term yields. This has driven up US Treasury prices while triggering a sell-off in equities, with S&P down 4.6% in recent weeks. We also observed similar trend in Indonesia with JCI recently plunged to 6,270, marking a 7.8% decline w-w, the steepest drop in the region. Since its peak in Sep-24, the index has fallen by 21%, primarily driven by foreign outflow of IDR19.7tn YTD. However, Indonesia’s bond market appears to remain relatively resilient, with foreign investors still recording a YTD net inflow of IDR12.9tn, indicating that their appetite for Indonesian assets remains. The INDOGB yield hovers at 6.9%, still 38 bps below the recent high of 7.3%. The main risk ahead is the continuation of foreign equity outflows, which could put additional pressure on the IDR and potentially affect the bond market foreign investors’ position. In Aug-24, foreign bond inflows amounted to IDR39tn, with a breakeven level of approximately IDR16.8k, while there was also IDR15tn inflow in Oct-24 at IDR16.6k. If the IDR continues to move toward and beyond this level, the risk of a reversal may rise. Given this challenge, BI's intervention will be essential to stabilizing both the IDR and bond yields.

 

Bond Yield vs Yield Curve: Which Matters More to Equity? Our study indicates that the impact of yield curve movements on Indonesia’s equity market differs from DM. Specifically, the 10-year INDOGB yield has exhibited a stronger correlation with JCI performance. In our view, this connection was largely driven by significant foreign inflows into 10-year INDOGBs, the primary benchmark, which lowered long-term yields and was often followed by foreign equity inflows, vice versa. However, this relationship has increasingly weakened, which we believe is a direct corollary of growing concerns over domestic economic growth stagnation:

 

  • In the pre-COVID era (2009–2019) yield flattening has often aligned with strong JCI performance, averaging 15% gains.
  • Between 2022 and May-24, the most significant yield flattening since the GFC, where the 10Y-1Y spread compressed from 320bps to zero, saw the JCI remain largely stagnant (+0.8%). As the curve steepened from late May to June-24, the index declined by 3%.
  • A moderate 30bps flattening in 3Q24 helped drive the JCI up by 12%, but this pattern has not persisted into early 2025.
  • YTD, bond yields have declined across maturities, with the 1-year yield falling more sharply, mainly due to much lower SRBI yields, leading to a steeper yield curve, while the JCI plummeted 11.6%.

 

Our analysis points to four key factors behind the recent divergence between bond and equity returns:

  1. The equity market relies on sustained economic expansion to fuel corporate earnings growth. However, with signs of stagnation emerging, earnings expectations remain subdued, trailing the 2025 GDP growth forecast of 5.1%.
  2. Foreign investors have been steadily trimming their equity holdings, driven in part by concerns over slowing growth. Yet, this retreat has not extended to bonds, where inflows persist, suggesting that appetite for Indonesian assets remains intact. YTD, the bond market has attracted foreign inflows of IDR 12.9tn, while equities have suffered outflows of IDR 19.7tn.
  3. The weighting composition of the JCI differs significantly from GDP, with the banking sector holding a dominant share in the JCI index. Concerns over slowing economic growth to loan growth, NIM, and NPLs at major banks lead to substantial correction in the JCI.
  4. Domestic equity AUM continues to decline, with increase the dependence to foreign flow. Furthermore, the increasing attractiveness of high-yield assets such as SRBI adds further pressure on equities. Equity AUM is now c 50% of FI, much lower than 2021’s 87%.

 

The recent market rout has pushed the JCI’s earnings yield to 8.7%, approaching the Mar-20 peak of 10.5% when pandemic fears were at their height. Notably, this level is now almost comparable to yields on A-rated corporate bonds, an asset class outside the investable universe for certain investors. With the JCI’s yield now surpassing both emerging-market equity yields and INDOGB 10-year bond yields, valuations may be approaching a support floor. Going forward, with investor sentiment still cautious, a more sustainable market recovery will require stronger pro-growth measures from both monetary and fiscal front, in our view.

 

The Latest BRI MSME Business Index – Moderation across the sectors. The MSME Business Index weakened by 0.5 points in 4Q24, indicating a slight slowdown in MSME expansion compared to 3Q24. The decline was due to: 1. Weak consumer purchasing power, especially among lower-middle-income groups; 2. Rising input costs and limited business capital, leading to reduced inventory purchases, lower production and sales, and shrinking profits. MSMEs could not raise prices due to weak consumer demand; 3. Seasonal factors, including the planting season, heavy rains and flooding, lower palm fruit yields, and livestock disease outbreaks, which affected agriculture, livestock, and plantations. The western wind season also reduced fish catches; and 4. Intensifying competition from modern and online retailers in the trade sector, along with growing competition in online transportation services.

 

In 1Q25, MSME entrepreneurs remain optimistic about business growth, supported by (1) the upcoming harvest season in key production areas, (2) higher demand for goods and services during Ramadan and Eid celebrations, and (3) a positive economic growth outlook for 2025. However, their confidence dropped by 1.9 points compared to the previous quarter. Despite the decline in MSME business sentiment in 1Q25, the index remains above 100 (135.7), indicating that more entrepreneurs expect economic and business conditions to improve rather than worsen.

 

Capital Market – The Divergence between Bond and Equity. The yield on the 10-year US Treasury fell by 18 basis points (bps) to 4.24%, while the 2-year yield declined by 20 bps to 3.99%. In contrast, the yield on the 10-year Indonesian Government Bond (INDOGB) rose by 14 bps to 6.92%, mainly driven by fear on IDR depreciation. The US Dollar Index strengthened by 0.68% from the previous week, while the IDR weakened by 1.69%, closing at IDR 16,580 per US Dollar. Meanwhile, Indonesia’s 5-year Credit Default Swap (CDS) increased by 8 bps on a weekly basis, reaching 79 bps. Equity market hit hard on the recent sell-off, down 7.8% w-w with JCI retreated to 6,270 level.

 

Fixed Income Flow - The Ministry of Finance (MoF) reported (on 20th Feb) a net weekly outflow of IDR6.13tn in foreign holdings of domestic Government Securities (SBN), bringing total foreign ownership down to IDR890tn. Despite this, SBN recorded MTD net inflow of IDR8.21tn and YTD net inflow of IDR12.9tn. The banking sector saw inflows of IDR27tn for the week, lifting MTD inflows to IDR76tn (YTD: IDR153tn) the highest among investors bases. In contrast, Bank Indonesia (excluding repo transactions) recorded outflows of IDR12.96tn for the week and IDR32.55tn for the month. Meanwhile, the mutual fund sector saw a weekly marginal inflow of IDR0.06tn, while the insurance and pension fund sector registered IDR1.12tn in inflows over the same period.

 

Equity Flow - Foreign outflows in the 4th week of Feb25 (24 – 28 Feb25) surged to IDR7.6tn, bringing the MTD and YTD outflows to IDR15.9tn and IDR19.7tn, respectively. JCI plummeted to 6,240 level, down 20.6% since the recent high of 7,905 back in Sep-24. The 5 stocks with the most foreign outflows last week were BBCA, BMRI, MDKA, BBNI, UNVR.

 

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