Indonesian markets up, but have long way to go

Indonesian markets up, but have long way to go

Sabyasachi Mitra, Reuters, Hong Kong

Investment bankers and fund managers are trickling back to Jakarta, three or four years since many last bothered to visit, drawn by a combination of rock bottom valuations, soaring returns and a demand for yield.

Many remain to be convinced that a jump in asset markets that has turned Indonesia into one of the best performing investment stories in Asia so far this year is sustainable and that the political will to tackle graft and reform is strong enough.

But Thursday's high profile sale of the country's biggest retail bank, Bank Central Asia (BCA), to a consortium of foreign investors, could convince global fund managers to book their flights for another look at long-ignored Indonesian assets.

"There's a valuation effect, base effect and also a re-pricing of Indonesian risk. There is a turnaround in investor sentiment," John Woods, head of Asian credit research at HSBC, told Reuters.

"The activity of distressed and high yield players in Indonesia seems to be accelerating," Woods said.

Indonesian dollar bonds are Asia's top performer returning around nine percent so far this year, according to HSBC's Asian Dollar Bond Index, and the rupiah has gained four percent, making it the region's best performing currency.

The Jakarta Stock Exchange has soared nearly 20 percent in local currency terms, the fourth best in Asia.

Investor expectations have built on asset sales of state-owned firms, spurring hopes of future economic reforms, and a recent government crackdown on corruption.

President Megawati Soekarnoputri's tough approach to wipe out graft was reflected in the detention last week of Akbar Tandjung, head of the nation's second largest Golkar political party, over a US$4 million scandal.

Distressed and vulture funds -- like San Francisco-based Farallon Capital Management which won the bidding for BCA -- are already busy grabbing at chunks of broken domestic banks and corporates, hoping to reap a windfall from restructuring.

Market sources say many regional financial institutions, mainly Singapore and Hong Kong-based banks, are also parking their short-term funds in Jakarta, lured by the yields on Indonesian corporate junk bonds -- some of the highest available in the region.

DebtTraders, a high yield bond broker, said bonds of Asia Pulp and Paper (APP) group, one of the world's biggest distressed borrowers with US$12.2 billion in debt, have risen in "total denial of extremely poor financial results" reported this week.

DebtTraders quoted APP China Group bonds due 2010 trading at 24 cents, versus their face value of 100, up from about 16 cents in early February and around seven cents in September 2001.

Similarly, the illiquid B3-rated Indonesian sovereign dollar bonds due 2006 have snapped tighter by 138 basis points this week to 303 basis points over Treasuries, massively outperforming the market.

But traders say illiquidity and short supply forces over- aggressive bids, while an abundant supply of synthetic credit default products further distorts the real price of Indonesian risk by offering a more liquid alternative that carries a smaller degree of capital risk.

There are some investors, though, that say valuations of fundamentally sound Indonesian firms are too tempting to resist.

"We are traditional long-only funds and we are going back to Indonesia because there are signs of stability and you have companies with very cheap valuations," Lena Tan, head of Asian research at Fortis Investment Management, which oversees US$1 billion in Asia outside Japan.

Tan said Indonesia's vast domestic market, which drives the country's economy, offered a diversity to fund managers looking to offset the slack in global demand.

But few fund managers say they risk being left behind.

The tiny capitalization of Jakarta's stock market -- just US$29 billion, the second smallest in Asia with a minuscule 1.2 percent weighting in the key MSCI Far East ex-Japan index -- means very little money moves it and very little money is needed to catch up with it.

The cautious say it is too early to jump onto the Indonesian bandwagon as Jakarta must still grapple with massive external debt, inflation, corporate and financial restructuring, pockets of separatist violence and political in-fighting.

"It has a long comeback period ahead of it. I still see lot of latent political risks," Singapore-based Didier Devresse, chief investment officer at ING Investment Management Asia, said.

"On a relative risk-reward basis, you have better places in the region to put your money," Devresse said.