Foreign investors in Vietnam’s relatively illiquid bond market must have exit strategies in place at all times to guard against an unexpected market dry-up, warns Nguyen Thi Tuyet Hong of Dragon Capital.
That comes despite improvements in recent years in transparency and trading mechanisms on the Ho Chi Minh City stock exchange.
“The focus [for Vietnam's bond market] has been on firefighting rather than market structure issues,” notes Hong, whose firm manages around $1 billion in assets through more than 100 staff across Vietnam, Hong Kong and the UK.
She runs Dragon Capital's Vietnam debt fund, and often accesses the shorter end of the yield curve via the repurchase market and certificates of deposit. But both these markets have experienced extended periods of tightness and inaction, which makes exiting difficult.
The shock to the domestic financial market caused by the arrest of Asia Commercial Bank founder Nguyen Duc Kien last year is a prime example of why institutional investors need to be vigilant and nimble when navigating the nation’s debt market, notes Hong.
In August, Kien was arrested on suspicion of conducting illegal businesses unrelated to the bank. The news sent shockwaves across Vietnam’s capital markets, driving down the benchmark equity index and prompting fears of a bank run.
Until then, Dragon Capital had been profiting from positive carry, borrowing at an annual funding cost of 6% and obtaining 9% return from government bonds. Her team had been using this strategy for more than a quarter.
As the crisis set in, they decided to exit the trade and increase their cash position. In August the team sold its government bonds and reinvested in T-bills at 8.65%, as uncertainties still weighed on market sentiment. When the market stabilised, they sold the T-bills at 8.2% and switched back to longer maturities in December.
If trading volumes are an indicator of market development, progress after 2006 has been zero or even negative, suggests Hong. Trading volume in Vietnam still ranges between $10-30 million in value terms per day. Banks and insurance companies are the dominant players in this market, but few keep trading books and most tend to be buy-and-hold investors.
Data from Dealogic shows there was only one US dollar syndicated bond by a Vietnamese issuer last year, which raised $247 million. Government bonds are largely issued via auctions conducted through the country’s only electronic bond trading venue on the Hanoi Stock Exchange.
Moreover, non-bank institutions are not allowed to access the interbank market, so operating at the shorter-end of the curve as a foreign investor is challenging, notes Hong. “As a foreign investor, we cannot make deposits at domestic banks, but can only buy notes such as certificates of deposit or [conduct] collateralised trades such as repos,” she adds.
Foreign investors also face other costs such as coupon and transaction taxes. Interest income earned from bond investments that are not exempt from income tax is subject to a 5% withholding tax.
But despite these challenges, Hong and her team of three traders like Hanoi's electronic fixed-income trading venue, even though it is still in the early stages of being used for bidding auctions in the primary market.
Since 2009, government bonds have been exclusively listed and traded on the Hanoi Stock Exchange, before which they were also traded on the Ho Chi Minh City Stock Exchange.
“A pattern in recent years is that the market has been steered by auctions – this also means that market participants have been reluctant to trade ahead of auctions,” says Hong. “The e-venue brings in more transparency, liquidity and more competitive prices [to the market place].”
An article on asset management and fund administration trends in frontier markets will appear in the February issue of AsianInvestor magazine.