Indonesia's plan to stabilise its often-volatile bond market faces derailment as the country's pension funds struggle to comply with a directive to jack up their bond purchases. In January, Indonesia's Financial Service Authority (OJK) instructed all domestic pension funds to invest at least 30 percent of their money in the government bond market within two years.
The directive was welcomed by investors. It would mean the $121 billion market would be part-owned by long-term investors, like in most major debt markets. Their presence would reduce volatile swings in a market dominated by foreigners, who on April 20 owned 44 percent of bonds other than sukuks, up from 38 percent a year earlier. But for reasons ranging from unattractive yields to lack of access to bond auctions, domestic pension funds aren't buying bonds. "We have very limited cash to buy bonds," said Sri Murtiningsih, president-director of state forestry firm Perhutani's pension fund. "The cash we have is only enough to make benefit payments every month."
At present, only 2 percent of the firm's pensions portfolio of 700 billion rupiah ($53 million) is invested in government bonds. She said another problem for her are returns. The forestry firm targets its pension fund to generate an 11 percent annual return, far above the average 8 percent yield on longer term bonds. The OJK has given funds until December 31 to make bonds 20 percent of their portfolios, and until end-2017 to lift that to 30 percent. Insurance firms received a similar mandate. The regulator has said executives of funds that fail to meet the requirements will have their licenses revoked, which could bar them from working again in the industry.
According to the regulation, executive of funds that fail to meet the requirements will be banned from holding senior positions or being shareholders at pension firms. The Indonesian Pension Funds Association has written to the regulator to ask for one-year delays, so funds would have till end-2018 to meet the 30 percent figure. It said there's been no reply yet from OJK. The regulator could not be reached on Friday for comment. An association survey that's so far drawn responses from 77 of 232 members found that more than half of them had less than 10 percent of their portfolio in bonds.
"Pricing in the secondary market has become too expensive with everybody buying, which means the yield has come down. Foreign funds are coming in so heavily," said association chairman Mudjiharno Sudjono. Yields on the benchmark 10-year bonds, are currently around 7.4 percent, compared with close to 9 percent late last year. Much of that rise in bond prices has been powered by foreign investors lured by the promise of Indonesia's structural economic reforms, relatively low inflation and the rupiah's stability in an environment of zero or negative rates in much of the developed world. The pension ruling has also been a factor.
"The recent reform around pension fund holding of local currency debt is likely to be supportive and likely to lead to the bond market being in fairly safe hands over time," said Ian Pizer, head of investment strategy at Aviva Investors. Aviva has $427 billion in assets globally and Indonesia is one of the few markets where its flagship fund owns local currency bonds. While the foreign bid crowds out local investors in the secondary market, the primary bond auctions are out of reach for many smaller pension funds because of the minimum bid size at auctions. Murtiningsih of the forestry company fund said meeting the deadlines for bond holdings "can't be forced". Asked about the possible penalty for not complying, she replied "Well, I'll just have to face the consequences."