Geopolitical risks drive interest rates up

MANILA, Philippines - The cost of borrowing from sources abroad increased in the third quarter on geopolitical risks and heightened uncertainty on the timing of the US central bank’s rate hike, the Bangko Sentral ng Pilipinas said.

“Bond spreads generally widened in Q3 2014, indicating higher risk aversion towards Philippine sovereign debt papers against a similarly tenured US T-bond (Treasury bond),” the BSP said.

Central bank data showed the Emerging Markets Bond Index (EMBI) + Philippine spreads averaged 138 basis points in the third quarter, up from the 127 bps seen in April to June.

Looking at it by month, the BSP said debt spreads tightened in July amid favorable prospects of a continuous recovery by the US economy.

“At the local front, the lower-than-expected June 2014 inflation translated to lower premiums in holding Philippine debt papers. Meanwhile, the credit rating upgrade received by the Philippines from the Japan based credit rating agency, R&I, likewise contributed in the narrowing of credit spreads during the month,” the BSP said.

However, the credit spreads widened in August amid geopolitical tensions abroad and as domestic inflation accelerated on supply chain disruptions.

“The escalating tension in the Middle East particularly in the Gaza area and the continued violence in the borders of Russia and Ukraine drove safe-haven bids for debt securities, driving yields of US long-term T-bonds down, which widened credit spreads further,” the BSP said.

“On the domestic front, headline inflation accelerated as most food items posted higher prices due to tight domestic supply conditions triggered by recent weather-related production disruptions, adding pressure for debt spreads to widen,” the central bank continued.

The BSP said debt spreads started to narrow in the latter part of August until early September on the rosy prospects of the Philippine economy. But this trend was reversed as concerns on when the US Federal Reserve would raise interest rates increased.

“This put upward pressure on global bond market yields,” the BSP pointed out.

“The hike in BSP’s policy rates during the month likewise contributed in the widening of debt spreads combined with the negative sentiment from reports on China’s weak industrial output and on the Philippine’s trade deficit from an expected surplus for the month of July,” the central bank said.

Spreads on Philippine debt papers have been rising since the fourth quarter of 2012 until the third quarter of last year. It narrowed in the last quarter of 2013, and continued to do so in the second quarter of 2014.

Meanwhile, credit default spread (CDS) slid to an average of 87 bps in the third quarter from 94 bps in the second quarter.

“Against those of neighboring economies, the Philippine CDS traded lower than Indonesia’s CDS average of 146 bps, Thailand’s 95 bps and close to Malaysia’s 82 bps,” the BSP noted.