KUALA LUMPUR, Feb 22 ― MIDF Research is expecting the ringgit to strengthen later this year when the US Federal Reserve (Fed) shifts its policy stance to be less hawkish or slightly more dovish.

It said in a note today the recent weakening of the ringgit against the US dollar was influenced by the changing market sentiment as recent stronger-than-expected data releases in the United States led to a review in the timing for rate cuts by the Fed.

MIDF Research said the resilience in the US job market and the broader economy will cause the Fed to maintain the high-for-longer policy stance before embarking on a shift to rate cuts later this year amid expectations for inflation to continue moderating.

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“This is a downside risk to the ringgit outlook as the US dollar will stay strong for an extended period,” it said.

Nevertheless, the research firm opined that there may be other structural changes which could somewhat explain the broad weakening of the ringgit thus far, beyond the influence of US rate movements.

“For example, we noticed changes in the composition of external trade (both goods and services), reduced foreign holdings of Malaysian Government Securities (MGS) (in contrast to growing government debts), and changing patterns in foreign currency holdings.

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“We believe that these factors have an influence on the movement of the ringgit in the longer run, in contrast to changes in market sentiment often used as the reasoning for forex movements in the short run,” it said.

MIDF Research also believed the government’s commitment in fiscal consolidation and improving fiscal management would support the ringgit’s performance in the long run.

The movement of the ringgit is also influenced by the fund flows in the country, MIDF Research said.

“We noticed that the inflow into the equity market (vis-à-vis outflow from the bond market) may have been behind the strengthening of the ringgit in December last year. This flow of funds was influenced by the shift in market sentiment towards growing expectations for rate cuts by the Fed in 2024,” it sad.

Post pandemic, MIDF Research said the bond market registered the first outflow in four years at ― US$5.8 billion as the Fed’s aggressive hike in 2022 sapped away interest from the bond market.

However, it said the bond market garnered interest In 2023, registering a US$3.2 billion inflow as Bank Negara Malaysia (BNM) stabilised the Overnight Policy Rate (OPR) at the pre-pandemic level while Malaysia’s credit ratings remained stable.

As for Malaysia’s equity market, MIDF Research said it has seen returned interest in 2022 as the economy reopened, registering the first inflow in four years amounting to US$1.1 billion.

“Reiterating our points, the weakness in ringgit could be related to structural change in Malaysia’s external trade sector and its contribution to gross domestic product (GDP), particularly smaller net exports for key products and higher exposure to trade deficit contributor in terms of trade with major markets like China.

“Fundamentally, the share of exports of goods and services to Malaysia’s GDP stayed below 80 per cent since 2012. The ratio was above 80 per cent from 1994-2011 and in fact, surpassed 100 per cent in 1998-2007,” it said.

Consequently, the research firm said the ratio of net exports to GDP was at a double-digit rate for the 14-year period since 1998.

“Macroeconomic structural shift from export-oriented to domestic-driven was among the factors leading to this shift, especially after the 1997-98 Asian Financial Crisis. We also noticed structural changes in Malaysia’s external trade sector in terms of products and trading partners,” it said.

Due to location and also being part of the regional production network, it said Malaysia is now more exposed to Asean and China.

“Meanwhile, export shares with the US, the European Union (EU) and Japan fell to 11.3 per cent, 7.9 per cent and 6.0 per cent respectively last year. The shift was not only about the change of trade destination, but also explained the change from being the source of surplus to deficit contributor.

“Malaysia was and is recording trade surplus with the US, EU and Japan. However, for the trade with China, Malaysia registered a double-digit deficit ratio of trade balance to exports value,” it added. ― Bernama