Yes, Malaysia’s inflation rate moderated to a one-year-low of 2.8% in May. However, the core inflation rate continues to linger above 3.5% in May, versus the pre-pandemic average of 1.7%.

Steady domestic demand and sticky core inflation may lead Bank Negara Malaysia to consider another quarter-point increase in the overnight policy rate (OPR) in the second half, said analysts at MIDF Research.

The US Federal Reserve may have held interest rates steady at 5% to 5.25% last month, but at the same time, it indicated the likelihood of more tightening before the end of 2023.

The European Central Bank (ECB) pressed ahead with another 25bps interest rate hike to 3.5% last month and made clear more hikes are on the way, aiming to crush inflation that is driving up the cost of living.

Inflation has yet to be fully tamed, and that suggests interest rates will be kept higher for longer, leaving equity markets much less attractive.

This also means that the interest rate differential between Malaysia and major economies may widen further, putting more pressure on the ringgit, the worst performing currency in Asia after Japan.

As such, Bursa Malaysia remains vulnerable to any headwinds that may hit the Malaysian economy in the coming months.

Penjana Kapital CEO Taufiq Iskandar said that apart from capital efficiency, there are other “Cs” that affect corporate earnings as well as the performance of our local market – currency, commodities and China.

“The weaker ringgit has put an upward pressure on the cost curve,” he said, adding that companies could not enjoy the tailwinds in the form of firmer commodity prices, and that China’s economic reopening has not brought much cheer either.

“If China hits a speed bump (on economic growth) and US and European consumer spending (slumps) as inflation erodes disposable income, that would be a really ugly one-two punch.

“Growth continues to be below target,” Taufiq told FMT Business, noting that China’s economy only grew 4.5% in the first quarter this year against an earlier forecast of 5%.

Meanwhile, US and European consumer spending has been weakening as households continue facing persistently high inflation.

“This bodes poorly for our economy as they are our key trading partners, affecting our export and manufacturing sectors,” he said.

Taufiq also said our domestic economy is no longer supported this year by direct cash injections from Covid-pandemic stimulus such as EPF withdrawals.

“Inflation and weaker currency is the biggest and most insidious ‘tax’ rise companies and households are facing right now as it places upward pressure on cost, eroding profitability and purchasing power,” he said.

To compound the problem, Malaysia’s high debt burden and low international reserves limit its ability to respond to economic headwinds.

“The country needs structural reform as well as supply side policies,” he said, adding this increases confidence and brings in capital flows.

“Expect lingering poor performance of corporate earnings and the stock market if there is no intervention to address these issues.”

On the upside, Taufiq said equity markets may strengthen on a combination of stimulus from China reviving its economy and having a spillover effect on Malaysia, firming up of commodity prices particularly crude oil, natural gas and crude palm oil, and stabilisation of interest rates in the US and Europe.

A contrarian view

However, Malaysia University of Science and Technology economist Geoffrey Williams opined that inflation and other macroeconomic factors have very little effect on Bursa Malaysia.

“The performance of listed companies depends on the individual company management and its success, or the relative performance of Malaysian companies compared to other options especially overseas,” he said.

The FBM KLCI has lost around 25% of its value since 2018 and this reflects underperformance of listed companies over time.

In the short-term, the recent selling by foreign investors reflects both local and global factors, noted Williams.

“There are better investment opportunities overseas and recent global factors are also pushing investors into more stable markets as well as markets with better investment returns,” he said.

Why foreign funds are leaving Bursa

Williams cited three main reasons for the selling of Malaysian equities, with the first being that listed companies are underperforming relative to alternative investments in other countries.

Secondly, the limited availability of shares that are closely held by company founders or local institutional investors. This means that foreign investors often cannot get meaningful holdings.

Thirdly, environmental, social, and governance (ESG) performance is poor with a general concern about governance. ESG reporting and ratings are not considered credible by many overseas investors who have to apply ESG criteria.

“To improve the performance of Bursa Malaysia, we need to improve the performance of the listed companies,” he said, adding this meant changing the management and leadership, or the business model and approach.

“Companies could also free up some shares to allow broader ownership options even if this means government-linked investment companies reducing their positions to seek out better returns overseas.”