Yuan = World Currency, Next?

Last night, the general meeting of executive directors of the International Monetary Fund (IMF) decided that the chinese currency, Yuan (also called Renminbi), to be included as one of the world reserve currency, effective from October 1, 2016. In the new calculation of special drawing rights (SDR), Yuan weighs 10.9%, or greater than the weights of Britain Pound Sterling or Japanese Yen, but still much lower than the weights of US Dollar and Euro. You can read the explanation of SDR in this article.

Here are the weights for each currency in the calculation of SDR, before and after the entry of Yuan.

Currency	Before (%)	After (%)
US Dollar	41.9	41.7
Euro	37.4	30.9
Chinese Yuan	-	10.9
Japanese Yen	9.4	8.3
Pound Sterling	11.3	8.1
Total	100.0	100.0

The question is, what is the impact of the IMF's decision on the Indonesian economy (if any), including on Jakarta Composite Index (JCI)?  When yesterday the JCI dropped 2.5% in one day, does it related to this?

Last Monday, in the pre-closing session, some foreigners suddenly sell their stocks in large amount until the JCI finally closed at 4,446 or dropped 2.5%, while during the day the index was quite stable in the position of 4,520’s. The biggest seller was Merrill Lynch, which sold its holdings worth Rp2.3 trillion (about US$ 200 million), but some of them are bought by foreign investors as well (so that the net foreign sell in Monday was only Rp1.5 trillion).

Then why Merrill sell off? Nobody knows, but a plausible explanation is that they may rebalance their portfolio composition in accordance with the weights of Indonesian stocks in the MSCI Indonesia Index (MSCI = Morgan Stanley Capital International). Earlier on November 11, the stock of HM Sampoerna (HMSP) is included in the calculation of MSCI Indonesia Index, with a weighting of 3.2% (so the price movement of HMSP will have effect of 3.2% on the movement of the index), and the inclusion of HMSP was automatically reduces the weight of other stocks to the calculation of the MSCI, for example, Bank Mandiri (BMRI), which its weight dropped from 7.4 to 6.8%. However, some stocks such as Astra International (ASII), the weight was still rising from 10.8 to 11.4%.

Here are the new weights of each stocks in the MSCI Indonesia Index (there are 31 stocks including HMSP), the blue ones are has its weight increased.

Stocks	Before (%)	After (%)
Bank BCA	14.0	13.8
Telkom	11.7	11.8
Astra International	10.8	11.4
Bank BRI	10.5	10.1
Bank Mandiri	7.4	6.8
Unilever Indonesia	5.0	4.7
HM Sampoerna	-	3.3
Bank BNI	3.3	3.1
Matahari Dept. Store	3.2	3.1
United Tractors	2.9	2.6
Semen Indonesia	2.7	2.6
PGN	2.8	2.6
Kalbe Farma	2.6	2.5
Indocement	2.6	2.3
Indofood Sukses Makmur	2.3	2.1
Lippo Karawaci	2.2	2.0
Gudang Garam	1.9	1.9
Surya Citra Media	1.6	1.6
Charoen Pokphand	1.6	1.6
Indofood CBP	1.3	1.3
Summarecon	1.4	1.2
Bumi Serpong Damai	1.1	1.1
Tower Bersama	1.2	1.1
Jasa Marga	0.9	0.9
Bank Danamon	0.9	0.8
XL Axiata	0.8	0.8
Adaro	0.8	0.8
Media Citra Nusantara	0.7	0.7
Astra Agro	0.7	0.6
Global Mediacom	0.6	0.5
TB Bukit Asam	0.5	0.5
Total	100.0	100.0

And MSCI Indonesia Index is a benchmark that is most widely used by international investors in putting their investments here. So when the components of the index has changed, most of the foreign fund managers will also change the composition of their portfolios, where they buy HMSP or add more ASII and, on the contrary, reducing their positions in stocks that weighs down, or sell out stocks that no longer being components of the index. And that’s what Merrill Lynch did yesterday where they sell BMRI etc., only they did it in a single day so that the JCI fell deeply.

So if the above theory is correct, the market drop in Monday has nothing to do with the meeting of IMF. However, the action of Merrill Lynch might explain what will likely to happen after Yuan established as one of world currencies, and here’s the explanation:

Investors from worldwide look at currencies that became the components of SDR in the same way as they look at stocks that become the components of MSCI Indonesia Index. So after Yuan was declared as a new component of SDR, the financial institutions around the world will begin to put their assets denominated in Yuan, just like when Merrill Lynch (and also other foreign investors) began buying shares of HMSP after HMSP be a component of MSCI Indonesia Index. On the other hand they will reduce their ownerships in assets denominated in US Dollar, Euro, Yen and Pound Sterling, because the weight of these four currencies (toward SDR) has been down. As a result, from this day onwards, the exchange rate of Yuan against USD will possibly up, while the exchange rate of the Euro, Yen, Pound, and the USD itself against many other currencies around the world, will go down. And indeed, on Tuesday, the USD was dropped against IDR (Indonesian Rupiah), but the IDR itself is dropped against RMB (Renminbi).

But will the US Dollar fall after Yuan is listed as one of the world currencies? Well, no, because the weight of the USD against SDR, as you can see above, only down slightly from 41.9 to 41.7%. Currency that weighs down the most was the Euro, from 37.4% to 30.9%, probably because in the last five years (since the IMF has changed the weight of components of the SDR in 2010), the Chinese economy has advancing rapidly, while the European economy is no longer dominant as before, even disturbed by the Greek Crisis etc. While the US? Still strong until today, and the size of its GDP is still the largest in the world, so there is no reason for investors around the world to convert their assets from USD denominated to Yuan. But for investors from Japan and the UK, they might start to less confident with their own currencies (which now weighs less than Yuan), and will probably start collecting Yuan while still keep the US Dollar.

Okay, but it does not answer the question: What is the impact of this Yuan issue toward Indonesia, if any? Well, because the weight of the USD towards SDR only dropped slightly, the foreign investors in here won’t get out if the reason was only because they have to convert their US Dollar to Yuan (so they have to sell their stocks first), although some of them may still do it anyway. But clearly the impact on JCI should be minimal, unless there are a lot of foreign investors from the European Union, the United Kingdom, or Japan who also invest here. Unfortunately there is no exact data about the investor from any participating country to buy shares in Indonesia.

However, in terms of the macro economy, China has been the largest trade partner for Indonesia, that throughout 2014, Indonesia exported non-oil goods worth US$ 16.5 billion to China, the biggest compared to exports to any other country, and vice versa, imported non-oil goods worth US$ 30.4 billion from China, also the biggest compared to imports from any other country. Now, with the rise of Yuan ‘status’, it will ease the trade transactions between China and Indonesia, where exporters from Indonesia no longer need to change Rupiah into US Dollar (and the importers from China will change it later into Yuan), but can directly convert it to Yuan, and vice versa.

So in the future, it is likely that the value of exports and imports between the two countries will increase, and it could mean two things: If Indonesia can export to China more than receiving the imports, that would be a good for Indonesian economy. But if Indonesia were flooded with imports from China, the economic growth will come under pressure (read the explanation here).

And unfortunately the value of Indonesia's imports from China in the last several years were always greater than the value of exports, so I’m afraid that our country will get flooded with imported goods. On the other hand, if the Chinese economy began to accelerate once again because they can do business easier with other countries (because they now can use their Yuan abroad, without converted to USD first), then their needs on coal and CPO will likely to increase back, and that means good news for the mining and plantation sectors in Indonesia, which this year has begun to.. dying. Whichever the case, we'll see.

Any inquiries about investment in Indonesia Stock Market, please send an email to teguh@averepartners.com