Emerging Trends – Fed RRP Depleting, Hungary a Battery Powerhouse, Thailand’s Sub-Par Recovery

Summary

• Money market funds have pulled USD1tn from the Fed’s reverse repo to buy T-bills. If this trend continues, US money market yields may spike.
• Thailand’s GDP remains below the pre-Covid peak. It is perhaps the most sub-par recovery in EM.
• Russian crude oil continues to gain market share in China.
• BNM and BI face a sizable build-up in claims on FX reserves, worsening their reserve adequacy.
• Hungary is on track to become the world’s fourth-largest EV battery producer, thanks to Chinese and Korean FDI.
• On a REER basis, CEE currencies, especially CZK, have become very overvalued.

In Emerging Trends, we flag developing themes that are typically under the radar but may turn into future market catalysts.

Depleting Reverse Repo

• Recently, inflows into US money market funds have not kept up with T-bill issuance, and shorter-tenor bills now yield over O/N reverse repo.
• Consequently, money market funds have been running down cash parked at the Fed’s overnight reverse repo to participate in bill auctions.
• Once the reverse repo facility is fully drained, money market yields may spike, unless the Treasury reduces issuance.
• This could lead the Fed to end quantitative tightening (QT) early.
• A lot would need to happen before we get to that point, so watch this space!

Thailand’s Sub-Par Recovery

• Thailand’s post-Covid recovery has lagged its EM peers: topline GDP has yet to recover to its pre-Covid peak, and the implied output gap from the pre-Covid trend is the largest among core EM economies.
• The cliché is to blame disappointing tourism. Hitting 50% recovery was easy. It is the second half that is proving difficult, especially as arrivals from China trail expectations.
• In contrast, private consumption has recovered well, matching regional peers. That is why it is ironic that the government is set to launch a massive transfer payment program worth USD15bn (3% GDP).
• The upshot is that Thailand’s current account may not return to surplus as most analysts are forecasting, resulting in further depreciation of the baht.

BNM and BI’s Worsening Reserve Adequacy

• While the widely reported gross FX reserves of Malaysia and Indonesia have been stable, net or unencumbered, FX reserves have fallen sharply.
• Bank Negara Malaysia built up a substantial net-short position in FX forwards in Q4 last year, which it has not covered to date. Meanwhile, short-term external debt has continued to increase. We estimate Malaysia’s net FX reserves cover only three months of imports and two-thirds of short-term external debt.
• Bank Indonesia’s situation is better, but the trend is similar. BI’s net FX forward position has increased to short USD12bn from about zero last year (this excludes BI’s DNDF intervention).
• Net reserves cover 2X short-term external debt and five months of imports. These are not alarming levels, though it leaves very limited room for BI to sell FX reserves further.

China’s Shifting Crude Suppliers

• Since Russia invaded Ukraine, we have seen a big shift in the countries supplying crude oil to China.
• In the first eight months of 2021, Russia, Iran (via Malaysia) and the UAE supplied just 25% of China’s crude imports or 2.6mn b/d. This year, they supply over 35% or 4mn b/d.
• Who has lost share? It is mainly the Gulf nations. In 2021, the combination of Saudi Arabia, Oman, Kuwait and Angola supplied 40% of China’s crude imports. So far this year, these countries have seen their market share fall 8-32%.
• Production cuts combined with higher OSPs have also contributed to the loss in market share.
• While Russian crude likely came at a discount, it also signals stronger ties between the two countries. Chinese Teapots (independent private refiners) have been the primary purchasers of Iranian crude. These firms have no ties to the US or EU, meaning minimal risk of sanctions or punitive measures for violating international sanctions.

Hungary’s EV Battery Powerhouse

• Hungary is projected to be the world’s fourth-largest producer of EV batteries with six plants either operational or under construction. Only China, the US and Germany are ahead. And on a per-capita basis, Hungary’s EV battery production is rising at the fastest pace globally.
• This is supporting an otherwise weak manufacturing sector. Manufacture of electrical equipment (12% weight in IP) was up 15.8% YoY in August versus -6.1% for the headline index. The subcomponent on batteries and accumulators increased 39% YoY.  
• Exports are also benefiting. While Hungarian export growth has slowed sharply in recent months, it is holding up better than elsewhere in CEE.

CEE REER Appreciation

• Competitiveness currently appears of no concern for Hungary’s export-orientated economy. But the forint, zloty and particularly koruna have appreciated sharply over the past 12-18 months.
• CPI at an average of 20% in CEE earlier this year, alongside various efforts by all three countries to stem earlier FX weakness, all explain the real appreciation.    
• Ongoing disinflation will help all three, while for CZK we also expect nominal depreciation.