September 2021

Economy recovers as Delta subsides

Highlights

  • Money market rates adjusted upward in response to the policy rate hike in August.
  • The yield curve continued to shift upwards in line with the August policy rate hike.
  • The CBSL’s holdings of T-bills went up by LKR 111.1 Bn causing the money supply to move up by an equivalent amount
  • AWPR rose 52 bps. Surprisingly, private credit jumped by LKR 134 Bn from July, the largest monthly increase since 2015
  • The total official reserves fell to USD 2.6 Bn after the settlement of forex debt worth USD 1.4 Bn.
  • Activity levels in the interbank spot and forward markets remained subdued,
  • Headline inflation decreased to 5.7% (Y/Y) due to the statistical effect of the high base that prevailed last year around the same time.
  • The stock market posted over 5% gains in both ASPI and S&P SL20 indices.
  • Both manufacturing and services sectors grew as per the PMI.

Interest Rates

Short-term rates

Figure 1: Treasury bill yield and money market rates

Notes: AWCMR- Average Weighted Call Money Rate,
SDFR- Standing Deposit Facility Rate, SLFR- Standing
Lending Facility Rate, T-bill yields are for the secondary market, ARR – simple average of daily repo rates
Source: CBSL

Money market rates adjusted upward in response to the policy rate hike in August. The call and repo rates converged on the upper bound of the policy corridor, while repo rate remained under the call rate.

Liquidity level was in negative territory and drastically dropped past LKR150 Bn/ day for the most part of the month before improving to LKR120/day, after the CBSL injected LKR 103.5 Bn via a term reverse repo. The interbank call market volumes surged while repo volumes declined. In the meanwhile, heavy borrowing (over LKR 200 Bn/day) via SLF continued throughout the month.

The CBSL’s holdings of T-bills went up by LKR 111.1 Bn causing the money supply to move up by an equivalent amount. In addition, forex intervention by the CBSL may have added around LKR 686.1 to the money supply.

T-bill yields in both primary and secondary markets increased by roughly 40 to 50 bps. The offer-to-acceptance ratio continued to suffer for 6M and 12M treasuries in the primary market. The volumes in the secondary market also declined.

Long-term rates

Figure 2: Yield curve of treasuries

Notes: Yields are based on the weekly average prevailed at the last week of the month, shorter end – less than 2Y, mid/intermediate tenor – 2 to 10Y, longer tenor – above 10Y, Source: CBSL

The yield curve continued to shift upwards in line with the August policy rate hike. Two primary auctions were held in September and were supplemented with direct issuances.

Figure 3: AWPR[1] and 3M T-bill yield

Note: T-bill yield for secondary market, Source: CBSL

AWPR rose 52 bps in September. Surprisingly, private credit jumped by LKR 134 Bn from July, the largest monthly increase since 2015, possibly as a result of businesses rushing to lock-in interest rates before lending rates start to move up. It is likely the trend may have continued through September as well.

International rates

Figure 4: Month open international lending rates

Notes: The SOFR Averages are compounded averages of the SOFR over rolling 180-calendar day periods.

Source: New York Federal Reserve and global-rates.com

Moderation of inflation in July boosted the treasury markets. Fear of fallout of Evergrande collapse also drove investors to treasuries helping to ease yields further. However, after the Fed signaled a sooner-than-expected interest rate increase in 2022, yields started to move up. In Eurodollar markets, the spread between SOFR and LIBOR USD declined.

The SLISB yields continued to move up in September. Yields on the Jan-22 ISBs rose by nearly 10 pps.

External Sector

Sri Lanka’s merchandise exports soared to USD 1083.6 Mn (14.4%, Y/Y) in August driven by apparel and key cash crops. However, remittances recorded a 2.8% decline from last year to USD 446 Mn.

Capital flight continued in September. Total foreign capital outflow from the treasuries was just over USD 1 Mn while the same from the equities was about USD 34 Mn.

Figure 5: Gross official reserves (Mn USD)

Source: CBSL

The CBSL’s forex intervention caused marginal addition to reserves (USD 3.4 Mn). The total official reserves fell to USD 2.6 Bn after the settlement of forex debt worth USD 1.4 Bn.

Figure 6: Interbank spot market

Source: CBSL

Activity levels in the interbank spot and forward markets remained subdued in September. Outstanding forward volume continued to decline during this time.

Prices & Wages

Figure 7: CCPI and Nominal Wage Rate Index of the informal private sector (Y/Y)

Notes: WRI (100=2012), CCPI (100=2013)

Sources: CBSL, CSD

Wage growth recovered and recorded 8% growth (Y/Y) in August.

Headline inflation decreased to 5.7% (Y/Y) due to the statistical effect of the high base that prevailed last year around the same time. Food inflation decreased to 10% from 11.5% while non-food inflation increased to 3.8% from 3.5%.

Equities

Domestic Market

Figure 8: ASPI (M/M)

Source: CSE

The stock market posted over 5% gains in both ASPI and S&P SL20 indices. The month started off with the CSE experiencing the worst fall since February 2021 following the Finance Minister’s debut speech regarding the grim situation of the economy. However, towards the month end the investors looked past the speech and returned to the market. Foreign investors remained net sellers, and overall PBV (Price-to-Book-Value) increased from 1.26 to 1.32 favouring sellers

Figure 9: GICS sector performance- September

SectorIndex Points Gained
Transportation5243
Diversified Financials143
Health Care Equipment & Services114
Capital Goods85
Consumer Services73
Telecommunication Services44
Insurance37
Household & Personal Products32
Energy31
Utilities24
Automobiles & Components21
Retailing19
Real Estate12
Food, Beverage & Tobacco5
Food & Staples Retailing3
Banks-2
Commercial & Professional Services-11
Materials-46
Consumer Durables & Apparel-50
Global Markets

The US Equities market slowed down in September as investors turned cautious over the Delta variant infections, slowing economic growth, and ongoing debates regarding potential interest rate hikes. The Dow Jones industrial average fell by 4.29%, S&P 500 index lost 4.76% and the Nasdaq dropped 5.31%. European markets followed suit with Germany, France and the UK equities experiencing losses. Asian Markets displayed mixed sentiments as China and Korea experienced losses while Japan and India recorded gains.

Commodities

Figure 10: Crude oil price

Source: Bloomberg quoted in CBSL

Global oil prices rebounded strongly in September after briefly dipping in the previous month. Oil supply tightened when the US offshore oil supply was affected as hurricanes Ida and Nicholas swept through the Gulf of Mexico. As a result, production was shut down for weeks due to damaged pipelines and platforms.

Figure 11: Tea (All Elevations) price and quantity sold at weekly auctions

Source: Forbes & Walker

Tea prices at the Colombo auction rose sharply throughout the month as a result of decreased supply resulting from lockdown measures throughout the country.

Figure 12: Rubber price weekly auctions

Note: Price of Latex 4X

Source: RRISL

Supply bottlenecks among the natural rubber producing countries lifted rubber price at the Colombo auction. Prices moderated towards the end of the month on the back of improved expectations of global supply recovery over the coming months [1].

Figure 13: Coconut price weekly auctions

Source: CDA

Poor yield quality drove the coconut prices down while supply remained weak.

Figure 14: Metal price index (2016=100)

Notes: Base metals index includes Aluminum, Cobalt, Copper, Iron Ore, Molybdenum, Nickel, Tin, Uranium, and Zinc, precious metals index includes Gold, Silver, Palladium, and Platinum

Source: IMF

Gold prices slid by around 4% during September as US Treasury yields rose, riding on the expectations of an advanced timeline for a rate hike by the Fed.

Copper and Tin prices rose during the months as demand from China surged due to decreased inventories and low supply in the global market. Aluminum traded at 13-year high as markets expect production cuts in China, leading to shortages in the Global market. Nickel climbed to a 7-year high ahead of Indonesia’s planned tax on exports [2].

Read ICRA Lanka’s report on the implications of rising commodity prices for Sri Lanka.

Real Sector

Figure 15: PMI deviation from point of neutrality (Index points)

Notes- negative values indicate the sector is generally contracting on a month-on-month basis while positive values indicate the sector is expanding. The strength of contraction or expansion is manifested by the magnitude of the figure. Source: CBSL

Both manufacturing and services sectors grew in September as per the PMI.  Manufacturing sector saw new orders improving and expanded their workforce to cope with the demand. But the supply lags continued to prevail. The services sector experienced a rise in new businesses while expecting more business activities in the near-term.

Outlook for October – November

The GoSL lifted the quarantine curfew in early October. 60% of the Sri Lankan population will be fully vaccinated soon reaching a new milestone. We believe the worst of the Delta-variant is behind us. Businesses have learnt to deal and operate amidst the pandemic over time. With this, Sri Lanka is looking at a fairly modest and undisturbed economic performance in 4Q.  

Tighter market liquidity will be the new normal moving forward. We may see some levelling off of treasury yields in the next few weeks. Banks may compete for funds pushing deposit rates higher, but we expect lending rates to be slightly stickier in the short term. In this context, private credit is likely to weaken.

Businesses will look forward to National Budget Proposals in November. The total expenditure allocation is slightly less than that of 2021 and signals a conservative fiscal stance in 2022.

Read ICRA Lanka’s initial observations of the Appropriation Bill.

With price controls on several of the items being removed, inflation will remain elevated for the rest of the year. In its latest Monetary Policy Review, the CBSL acknowledged “headline inflation to deviate somewhat from the targeted levels in the near term” as predicted by ICRA Lanka before.

The CBSL revoked the 100% cash margin deposit requirement on the importation of selected goods classified ‘non-essential’ in October. As pointed out by ICRA Lanka last month in this very publication, this would have further dented economic activity and brought about scarcity in the targeted goods. In the 6-month policy Road Map, the CBSL expressed its intention to request the government to tax profits of exporters at 28% instead of 14% where the foreign exchange is not repatriated and converted. We doubt this move will bring about the desired objective and help to establish the credibility of the currency. Given the precarious position on the country’s foreign reserves, what is needed is to encourage and provide additional incentives to boost exports, rather than penalizing the sector. The CBSL on the other hand needs to address underlying causes of alleged speculation and focus on a long-term strategy to stabilize the currency.

Rating Actions

Following rating actions were taken by ICRA Lanka during the month of September.

Visit https://www.icralanka.com/ratings/ to read the rating rationales.

IssuerIssueActionPrevious RatingCurrent Rating
National Savings BankIssuer RatingReaffirmed[SL]AAA (Stable)[SL]AAA (Stable)
National Savings BankSenior, Unlisted, Rated Redeemable debenture program (LKR 15 Bn)AssignedN/A[SL]AAA (Stable)
National Savings BankSenior Unsecured Redeemable Debenture Programme (LKR 20 Bn) Reaffirmed[SL] AAA (Stable) [SL] AAA (Stable)
National Savings BankSubordinated Unsecured Redeemable Debenture Programme (LKR 6 Bn) Reaffirmed[SL] AA+ (Stable) [SL] AA+ (Stable)
National Savings BankBasel III Compliant Additional Tier 1 Capital Bond Program Reaffirmed[SL]AA(hyb) (Stable) [SL]AA(hyb) (Stable)
Softlogic Life InsuranceInsurance Financial Strength RatingReaffirmed[SL]A (Stable)[SL]A(Stable)
Softlogic Capital PLCSenior unsecured Listed Redeemable Debentures (LKR 3.5 Bn)AssignedN/A[SL]BBB + (Stable)
Softlogic Capital PLCIssuer RatingReaffirmed[SL]BBB + (On Watch)[SL]BBB + (Stable)
Arpico Finance Company PLCIssuer RatingWithdrawn[SL]B+ (Negative)N/A
Bank of CeylonIssuer RatingReaffirmed[SL]AAA (Negative)[SL]AAA (Negative)
Bank of CeylonBasel III Compliant Additional Tier 1 Capital Bond Program 2020 (LKR 10 Bn)Reaffirmed[SL]AA(hyb) (Negative)[SL]AA(hyb) (Negative)
Bank of CeylonBasel III Compliant Additional Tier 1 Capital Bond Program 2021 (LKR 3.35 Bn)Reaffirmed[SL]AA(hyb) (Negative)[SL]AA(hyb) (Negative)
JAT Holdings PLCIssuer RatingReaffirmed[SL]A+ (Stable)[SL]A+ (Stable)


Abbreviations

ASPIAll Share Price Index
bpsBasis points
ppsPercentage points
CBSLCentral Bank of Sri Lanka
CDACoconut Development Authority
CSDCensus and Statistics Department
CSEColombo Stock Exchange
GICSGlobal Industry Classification Standard
GoSLGovernment of Sri Lanka
SLDBSri Lanka Development Bonds
SLISBSri Lanka International Sovereign Bonds
SOFRSecured Overnight Financing Rate
PMIPurchasing Managers Index
RRISLRubber Research Institute of Sri Lanka
YTDYear-to-date  
References
[1]A. &. Kottayam, “The Hindu Business Line,” 20 September 2021. [Online]. Available: https://www.thehindubusinessline.com/markets/commodities/spot-rubber-lost-ground-on-monday/article36572839.ece.
[2]J. Roy, P. Ruparelia, R. Ghosh and D. Ghosh, “Indian Iron and Steel Sector Monthly Update,” ICRA, August.

[1] AWPR is calculated based on the submissions made by the commercial banks to the CBSL on the rates offered to customers who borrowed more than LKR 10 Mn for less than three months.


Disclaimer

This publication has been prepared by ICRA Lanka solely for information purposes without regard to any particular user's investment objectives, financial situation, or means. The information in the publication is not an investment recommendation and it is not investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Reasonable care has been taken to ensure that this publication is not untrue or misleading when published, but ICRA Lanka does not represent that it is accurate or complete. ICRA Lanka does not accept any liability for any direct, indirect or consequential loss arising from any use of this publication.