Across the causeway from where we sit in Singapore, neighbouring country Malaysia had a dismal 2015. Not only did the commodities-exporting country have to grapple with plummeting prices of natural resources, it also suffered from its worst political crisis in recent history. Najib Razak, the prime minister, became embroiled in a political scandal after deposits of nearly US$700 million from an unnamed Middle East donor found their way into his personal bank account. The country’s anti-corruption agency said that the money was not siphoned off from debt-ridden state investment fund 1Malaysia Development Berhad (1MDB), whose advisory board the prime minister chairs.

Even so, the scandal pushed 1MDB bond prices down to 72 cents on the dollar in September last year as investors fretted about a possible default. There were also fears that Najib’s political party would be thrown into disarray amidst infighting and street protests calling for the prime minister’s resignation. Meanwhile, the ringgit fell nearly 19% against the US dollar in 2015 and was the worst performer in Asia, a reflection of Malaysia’s political risk premium.

In most countries, association with murky scandals would have finished off a politician’s career. But Najib has proven adept at shrugging off the mudslinging. Although there were initial uncertainties last year about his chances for political survival, the general mood today is that he has secured his position, while no obvious successor has emerged. Measures to deleverage 1MDB, including selling off power plants and land parcels, have also reassured investors that the fund has valuable assets and that it intends to fully honour its financial commitments. Moody’s stated earlier this month that the company “does not pose a systemic risk to Malaysia’s economy, banking sector or public finances.”

As an investor who is only starting to look at Malaysia again, it may be too late to benefit from holding 1MDB’s bonds as its yields have since rallied from about 9.5% in September to below 7% today. But the ringgit looks undervalued as the level at which it trades at does not commensurate with economic fundamentals. The country has an A rating from all three major credit ratings agencies; its current account is still in surplus, although this has shrunk recently owing to low commodity prices; and the economy is growing at about 5% a year. Yet it is the most undervalued currency in Asia, according to the Bank of International Settlements’ calculation of the real effective exchange rate.

Malaysia’s political risk premium
Who knows how long the political peace can prevail? But for now, the worst appears to be over for Malaysia. With the general election coming up in 2018, Mr Najib and his party are surely eager to turn their full attention to the economy. Measures such as increased government spending and progress on reforms that are aimed at diversifying the economy have the potential to trigger more positive market sentiment. The prize for Najib’s party is another term at the top.


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