ASIA MARKETS: Indonesia Shares Slump As Analysts Cite Risks

By Dow Jones

Indonesian shares turned lower Tuesday, bucking a regional rally, a contrast that highlights what analysts say are the country's clear risks despite potential rewards.

The first such risk is inflation: On Monday, data showed that Indonesia's consumer price index rose to its highest level this year in July. The CPI was up 6.22% from the year-earlier month, accelerating from June's 5.05% year-on-year rise, and up 1.57% from June.

The July reading was higher than the central Bank Indonesia's target range of 4%-6%. Bank Indonesia has maintained its key interest rate at record low of 6.5% since August 2009, and says it will hold steady this year if inflation stays within its target. On Wednesday, the BI will hold a regular monetary policy meeting, and also give its assessment of the current policy stance.

Currency appreciation is another risk. Indonesia's central bank reportedly said Tuesday that it's studying plans to redenominate the rupiah, which is currently worth about 9,000 to the U.S. dollar. A central bank spokesman said it would have no inflationary impact and could take five to 10 years to implement, according to Reuters.

A few large companies

Indonesian shares jumped about 20% in July, making the Jakarta Composite Index the best performing major Asian index. But a closer look at the recent performance shows gains concentrated in just a few large companies, analysts say.

In the second quarter, the JCI advanced by 136 points, but 100% of those gains were attributable to just five stocks: Unilever (UN) unit PT Unilever Indonesia (UNVR.JK), Gudang Garam , Astra International, Bank Mandiri (PPERY) -- the country's biggest bank by assets -- and second-biggest Bank Rakyat Indonesia .

"If you exclude these five stocks, in aggregate investors in Indonesian equities broke even" in the quarter, J.P. Morgan analysts Aditya Srinath, Sriyan Pietersz and Adrian Mowat said in a recent report.

In contrast, they said, those top five stocks accounted for only 39% of the first quarter's index advance.

"Clearly, while the JCI's moves are attracting attention, the appreciation in Indonesian equities is becoming narrower," they said, adding, "We do not see this as a good sign."

Nonetheless, they said, over the last three months they've observed an increase in client interest from those with broader international mandates.

"While the market may be held back in such cases by its benchmark weight, there is no doubt that Indonesia has now shown up upon the radar of a larger group of investors -- almost all of whom do not have any existing positioning in the country," they said.

On Tuesday, the JCI skidded 1.3%.

Unilever Indonesia lost 1.5%, Gudang Garam fell 1.0%, Astra was down 4.3%, Bank Mandiri lost 3.4% and Bank Rakyat Indonesia dropped 2.1%.

In broader regional trading Friday, Australia's S&P/ASX 200 was up 0.5%, South Korea's Kospi was 0.3% higher, Hong Kong's Hang Seng Index gained 0.7%, and Japan's Nikkei 225 Average added 0.8%, while the Topix index gained 07%. But China's Shanghai Composite dropped 0.6%.

Rupiah appreciation

Some analysts also said that while investors were hopeful about President Susilo Bambang Yudhoyono's market-friendly reforms, actual progress has been slow.

"Sooner or later, we think that investors will need to bear in mind that a lack of reform could restrict the capacity for Indonesian growth to transform from a cyclical surge to a more permanent structural shift higher," the J.P Morgan analysts said.

But they cited rupiah appreciation as the biggest medium-term upside risk. Despite efforts to stem the buoyant currency -- including reports of direct currency-market intervention -- funds flowing into the country have put upward pressure on the rupiah.

The rupiah was Asia's best-performing currency in 2009, rising 17% against the U.S. dollar. While a stronger currency can hurt exporters, it can also help contain inflationary pressure, not to mention boost stock returns for foreign investors.

If policy makers choose to embrace the inflow of funds rather than fighting them and stemming the rupiah's rise -- such as allowing a one-time appreciation of the rupiah to a higher trading band -- the J.P Morgan analysts would "see such a move as a game-changer, and would necessitate a review of our outlook for Indonesian growth and asset prices."