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1MDB doubters not swayed by Malaysian premier Najib's guarantee
[SINGAPORE] Investors in 1Malaysia Development, the state-owned firm whose debt woes are weighing on the nation's credit rating, are still questioning government support even after the premier vowed to pay its debts if needed.
As the company prepares to meet bondholders today in Singapore, its US dollar bonds are offering a premium of 476 basis points over Treasuries, almost 350 more than the country's own US currency notes. The extra yield has remained high even after Prime Minister Najib Razak said the government will pay the coupon and principal if 1MDB isn't able.
"The bonds are trading wide because some people don't think the letter of support is equivalent to a guarantee," said Luc D'Hooge, head of emerging markets bonds at Bank Vontobel in Zurich, adding that he accepts the document is "as good as a guarantee." The lender holds 1MDB bonds.
The history of Malaysia under Najib's predecessors holds warnings for investors. Six years ago, the government spooked a major port project's bondholders by disputing their notes' letter of support. The current administration said in November it wasn't responsible for all of 1MDB's 41.9 billion ringgit ($11.4 billion) debt.
Fitch Ratings said last week that Malaysia is "more than 50 percent likely" to be downgraded as its trade balance worsens and 1MDB struggles to meet debt obligations. The nation would "sit more naturally in the BBB range," below its current A-grade, Andrew Colquhoun, head of Asia Pacific sovereign ratings, said in an interview.
A Kuala Lumpur-based spokesman for 1MDB declined to comment on the letter of support. Tony Pua, an opposition lawmaker, said last week the letter was tantamount to a guarantee that exposed the government to a costly bailout of 1MDB.
Deputy Finance Minister Ahmad Maslan said in November that the government only guaranteed 1MDB's sukuk, or bonds that comply with Islamic law, and not its offshore debt. He later said that a letter of support for US$3 billion of bonds due in 2023 meant the government may pay creditors in the case of insolvency, but only once the fund was restructured.
The yield on 1MDB's offshore notes leapt 30 basis points to 4.7 per cent during the week of Maslan's comments. While it dropped after his assurance that the government would step in, the yield has surged more than 190 basis points this year as 1MDB delayed repayment of a local loan.
Najib, who also serves as finance minister and heads 1MDB's advisory board, saw his approval rating fall to 44 per cent in a January survey from 48 per cent in October, on concerns over the high cost of living and condition of the economy. The oil- exporting nation is grappling with a 46 per cent slump in crude and 10 percent fall in the ringgit over the last year.
"The discussion over 1MDB's support has already undermined Najib's popularity," said Hock Guan Lee, the coordinator of Malaysian studies at the Institute of Southeast Asian Studies in Singapore. "If it were to implode they would probably find a solution but it would hurt Najib." The case of the port in 2009 also provoked political debate, according to Lee.
At that time, lawmakers questioned the ballooning cost of building the Port Klang Free Trade Zone industrial park, Lee said. Kuala Dimensi, the project's contractor, sold almost 4 billion ringgit of bonds to finance the development, all of which had letters of support from the Transport Ministry.
A state investigation found the letters breached Malaysia's Financial Procedure Act of 1957. The act said "no guarantee involving a financial liability shall be binding upon the Federal Government, unless it is entered into with the written authority of the Treasury or in accordance with federal law." The government also tried to withhold money from Kuala Dimensi in 2010, which threatened bondholders' payments, amid a debate over the contractor's tax debts. Most of the project's bonds have since matured and were eventually paid in full.
"Investors prefer to have a letter rather than nothing," James Chin, director of Asia Institute at University of Tasmania, said by phone on March 24. "I believe the letter will stand up because it's very specific, otherwise the whole thing will fall apart. The real question is what happens when Najib is no longer the Prime Minister or the Finance Minister?"
Standard and Poor's rates 1MDB's 2023 bonds at A-, the same level as the sovereign, because it understands the letter of support is effectively equivalent to a guarantee, said Kim Eng Tan, a Singapore-based sovereign analyst at the ratings company.
"The letter of support makes a clear and strong commitment to ensure the repayment of the bond," he said.
The 2023 dollar bonds also have a clause allowing holders to redeem if 1MDB misses payments of more than $30 million. In that case, and if 1MDB can't meet debt obligations, the government would have to honor it, Mr Tan said.
The government provided 1MDB with a 950 million ringgit standby credit facility this month, helping allay investor concerns after the delayed loan repayment. The company also obtained a private 2 billion ringgit loan last month to help repay local bank debt.
"There is a lot of bad news around the name and that is why 1MDB's bonds are trading so poorly," Bank Vontobel's Mr D'Hooge said. "But the letter of support being issued under English law means the intention is clear and the document is pretty solid."