Post GE-14: A New Market Script for Malaysia

Tide Turns in Malaysia

In a watershed election, the opposition won the 14th General Election (GE14) wrestling traditionally held strongholds from the incumbent by taking over states such as Johor, Kedah, and Melaka. Whilst an opposition win raises questions about government regulation and economic policies, we view that such concerns on policy uncertainty will fade as the incoming government clarifies its position.

All markets dislike uncertainty and we expect this could lead to bigger discounts with the adjusting factor being lower share prices overall. This would be the immediate reaction as the selloff will be broad-based.

We are looking at 5-8% immediate downside within the next 1-3 days, where we note that pre-results the market has already corrected by 3.5% since it reached its record high in April.

Stocks including contractors, politically-linked counters and CIMB could take the brunt of the hit. Our Malaysian portfolios have currently 12-15% exposure in such stocks with the largest weights in CIMB, Gamuda and IJM.

Markets Won’t Stay Down For Long

The street is overwhelmingly bearish if the opposition wins. We are on the contrary, bullish.

Any new government will want to generate confidence for the market and overall population. This fading of uncertainty should bring investors back to the market.

Ultimately, we think markets will end up higher in less than a month than pre-election with this new government – barring any unforeseen global macro overhang and a smooth transition of power is achieved.

We take comfort in the fact that major regime changes in overseas markets only had short-term negative impact to their respective markets. The Thai military coup of 2014 drove out foreign investors but strong domestic liquidity boosted the market for a full recovery within 6 days. The correction from Brexit only lasted 3 trading days.

Similarly, the impact from Donald Trump winning the US presidency lasted just 3 hours.  The unfavourable referendum for Italian PM Matteo Renzi only had a 3 minute negative effect.

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Cutting Through Noise to Make Sound Investment Decisions

Bracing for Market Turbulence

Volatile. If there ever was a word to describe markets now, that would be it. Markets were whipsawed last month amidst a torrent of trade retaliatory measures between the US and China, as fears of an escalated trade war kept markets on edge over who will blink first.

Geopolitics also took centre stage following a missile attack in Syria by US-allied forces, as part of a joint-coordinated strike to stem the Syrian regime’s use of chemical weapons in its arsenal.

Locally, Malaysia will also hold its 14th General Election (GE14), with polling taking place on the 9th May.

Trade tariffs, geopolitics, missile strikes, elections – that’s a lot to digest for any experienced fund manager, let alone a casual observer. So, what’s an investor to do?

It’s important to first realise that global markets are prone to ‘noise’ and that most short-term fluctuations in asset prices are a direct reaction from traders reacting to such noise occurrence.

Broadly, noise refers to any information (true or false) or activity that distorts the price trend or underlying fundamentals of an asset class.

In this fast-paced digital age with social media platforms such as Twitter and Facebook, such noise is further amplified in markets that can lead to further confusion.

Here are 3 tips on how investors can cut through the noise to make sound investment decisions:-

Stay Rational

In this current 24-hour news cycle, it’s easy for any investor to be overwhelmed by the constant stream of news flow including economic data and market news that flood our inbox notifications all the time.

Sometimes, this can lead to investors making rash decisions that puts their portfolio at risk. It’s important for investors not to overreact in this instance and to sometimes take a back seat and wait for the dust to settle.

Media outlets including financial publications, online news, business portals and TV channels have the habit of sensationalising headlines and narratives because that’s what sell news and ads.

Market sell-offs, plunging indexes, a sea-of-red, and doomsday scenario headlines prod at our basest instincts of fear and anxiety, which makes us want to tune-in to find out more.

The field of behavioural finance has conducted plenty of research as to why investors behave the way they do in stock markets.

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Keeping an Eye on Inflation

Return to Calmer Waters

After January’s US inflation scare that sent jitters across markets and caused ripples all the way to Asia – it looks like markets are making its return back to calmer waters. US consumer prices held steady in February, soothing investor’s concerns over any sudden spike in inflation that would trigger an acceleration of the pace of interest rate hikes by the US Federal Reserve.

The US consumer price index (CPI) rose 2.2% in the 12 months through February, compared with 2.1% in January, whilst core CPI was up 1.8% from a year earlier for a third month.

As inflation gradually firms up to the Fed’s inflation target, markets have now repriced asset prices in terms of inflationary expectations, where after years of loose monetary policy and quantitative easing (QE) programmes have finally resulted in an uplifting of growth.

Markets were only priced-in for 2 rate hikes by the Fed at the start of the year, before we saw markets sold-off on the back of strong inflation data. But with the correction behind us, markets are now priced in-line with the Fed.

Nonetheless, we don’t expect any rapid runaway inflation data that would spark another market correction like we did in early-February, where markets sold-off over concerns that the Fed would tighten too quickly.

Wage growth has been persistently stubborn, despite tightening labour market conditions. The US added over 313,000 jobs in January beating the average median estimate of 200,000 jobs monthly – however wage growth slowed to 2.6% from 2.9%.

The labour data suggests some uncertainty surrounding existing slack in the US economy and lack of wage growth that would keep the Fed from raising rates too aggressively and stick to a more gradual pace.

A lot of the structural-plays has also not really changed, where we see a global economy that remains heavily indebted with an ageing demographic.

New frontiers in technology including advancement in robotics and increasing automation has also compressed wages, creating the so-called ‘Amazon effect’ that should keep inflationary pressures muted and from rising too quickly.

Though, recent hard data suggest that inflation is picking-up, we don’t expect a breakout in inflation anytime soon that would damage the shoots of early economic recovery. With most of these structural plays still in force, we expect inflation to remain range-bound between 1.5% – 2.5%.

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Positioning in a Market Correction

A Necessary Jolt to Investors

Markets officially entered correction territory in early-February, triggering a global sell-off that sent ripples all the way to Asia.

After 9 years of expansion following the 2008-GFC, volatility roared back into markets unsettling the calm that pervaded markets for almost a decade. But behind the pullback is a reminder to investors that markets can go down and that volatility is part and parcel of investing.

A market correction is simply an attribute of a normal and healthy functioning market that helps re-establish the relationship between interest rates, inflation levels and valuations. A 10% stock market correction like that seen in February is not uncommon if one were to look back at the long history of stock market cycles.

Whilst, market volatility isn’t something investors look forward to or anticipate, the recent correction serves as a useful (but often painful) lesson for investors to never take volatility for granted and always be prepared.

Here are some tips how:-

  1. Expect the Unexpected

Volatility is here to stay and the sooner investors’ start accepting this as a market truism, the quicker they can accept and move on.

Even though markets have since rebounded and are now gaining back some lost ground from the recent sell-off, global markets are unlikely to revert back to the unusually calm and tranquil market condition last year.

For context though, stock market volatility was unusually low in 2017. The Cboe Volatility Index or VIX, otherwise known as the ‘fear gauge’ of markets and the most commonly used barometer of expected near-term volatility for US stocks, posted a historically low average of just 11 last year.

During the recent correction, the VIX index spiked up 20.01 points to close at 37.32 on 5 February. A sharp unwinding of inverse volatility products exacerbated the sell-off and contributed further to the violent swing in markets.

But with most of these positions now already unwounded, we could expect some market stability moving forward as this correction appears to be driven by the reduction in leverage rather than deterioration in fundamentals.

The level of fear in markets has certainly fallen, but is still unlikely to return back to pre-correction levels. Investors would be wise to do the same, by staying vigilant and not remain complacent.

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The Case for Holding Gold in a Market Correction & Strengthening Ringgit Environment

Making the Most of the Ringgit Strength

The Ringgit’s resurgence has dampened the risk appetite of investors when allocating into offshore assets.

As the Ringgit continues its steady climb upwards, rallying by over 3.66% YTD (as at 30 January) to close at 3.899 – many investors are rightfully anxious about unfavourable forex translation, when converting back their investments into the local currency.

However, chasing currency movements is often a superfluous exercise and investors are bound to get burnt.

Instead, investors should avoid such short-sightedness and take the opportunity to also capitalise on the Ringgit’s strength to diversify their portfolios and allocate a portion of their holdings into offshore assets including gold which is denominated in USD, and hence diversify their currency exposure.

Markets Enter Correction Phase

With the S&P and Nasdaq repeatedly pivoting to all-time highs, and the momentum in markets looks set to continue unabated, underpinned by positive earnings revision and rising corporate profits following the passage of US tax reforms and strengthening crude oil prices – some investors are also understandably cautious of how long until the rally starts to dissipate.

In fact, we already see markets puling back which is likely an overdue correction, as markets begin to reprice itself and settle to more healthy levels.

After a strong start to the year, global equities were broadly down as a bond rout deepened which lifted US Treasury Yields to a 4-year high of 2.84%.

The US Treasury yield will now test the 3% level, as bond markets come under pressure from rising optimism over the strength of the economy and expectations that inflationary pressures are mounting, as global central banks also embark on their balance sheet unwinding process and gradually withdraw monetary stimulus.

Market volatility as measured by the VIX index is picking up and credit spreads have widened, implying that market volatility is rising.

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Malaysia Bond Market Outlook 2018

Malaysia Bonds Stay Resilient

In a global environment marked by heightened geopolitical risks, stepped-up talks of trade protectionism and a cautious undertone lying beneath markets that have rallied strongly at the start of the year – the Malaysia bond market stands as an outlier providing positive yield for investors in an era of low or negative yield rates.

Despite the prospect of tightening monetary conditions, and policy uncertainty surrounding a tumultuous administration led by US President Donald Trump, the local bond market held up strongly providing decent yields for bond investors.

The Quantshop MGS All-Index and BPAM Corp Bond All-Index yielded 1-year returns of 5.60% and 5.28% respectively in 2017.

Real Money Investors to Stem Fund Outflows

Underpinned by sound economic fundamentals, an increase in external reserves, along with an expansion in the current account surplus – we see these improving fiscal conditions to be supportive of fund flows into the local bond market.

The Ringgit has been on a steady climb and has rallied by over 3.66% YTD (as at 30 January), closing at 3.899 and would strengthen the risk-appetite for Ringgit-denominated bonds among investors.

Overall net inflows of foreign debt securities increased by RM2.7 billion in December’17, buoyed by inflows into both MGS of RM4.1 billion and GII of RM0.6 billion. Total foreign holdings of both MGS and GII, accordingly rose to 45.1% and 6.9% respectively in December.

Due to this recent large accumulation of government debt by foreign investors, some risk of reversal cannot be discounted, especially if the Ringgit strength starts to wane.

However, we do note that a large portion of the foreign flows are from real money investors such as pension funds, sovereign wealth funds and asset management companies who hold a more longer-term view in their investment horizons and tend to be more sticky.

Yields to Hold Up in Tightening Environment

Dispelling any further uncertainty of the timing of its interest rate hike decision, Bank Negara Malaysia (BNM) went ahead and pulled the trigger to raise its benchmark interest rate by 25bps to 3.25% at its policy meeting on 25 January.

We view the rate hike as more of a reversal from the central bank’s decision to cut rates in 2016 to pre-empt headwinds from the surprise Brexit vote, as opposed to the central bank signalling a more aggressive tightening bias.

The rate hike was not entirely unexpected given the fundamental strength seen in the broader economy, and the stronger growth outlook expected for 2018. The government is already forecasting a growth of 5.5% for 2018 on expectations that global trade and rising domestic spending will provide support.

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What Stocks Not to Own for the Long-Term

A Black List… Of Sorts

Many things have been said about what and how to buy stocks, but not much on what to avoid. In a typical portfolio, there will always be winners and losers. Sometimes these losers overwhelm the gains. Besides judicious cutting of losses before they swell further, avoiding them in the first place would be even better.

We highlight some categories of stocks below which we think are not suitable for long term holdings. The key word being long term. Another point is that this is not a total blacklist of what to avoid, some of them do turn out to be darlings, but the odds are working against you.

Penny Stocks with High Volumes

Look at any old listing of top volume penny stocks. How many have grown to be significant companies? Anecdotal evidence suggests none make it big. This is evidence enough that such positions are not meant to be held for the long term.

One should look at it from a listed company owner’s perspective – if one has genuine interest in growing the business, why would significant chunks of their shares be traded on a daily basis?

One has to question the motivation behind such moves then. Any real desire to grow its business is tenuous at best. There usually is some credible (sometimes incredible) story that goes with such high volume activity.

But, this isn’t strictly a Malaysian phenomenon. Markets across the world have their own versions of high volume penny stocks.

Our perspective of these stocks is that the business behind it is secondary to the current share price trading activity. The high volume is simply not a reflection of the interest of real investors.

The new contract announcement, concession-win, diamond mine or large profit almost never materialises or is sustained, except maybe in the form of a MOU. Quite frequently these companies then come back with high volumes – but with entirely new owners, new business ventures, or a new company name, but still the same disappointing results.

Penny stocks with high volume are perhaps good for high risk trading. But, holding them without a short term exit strategy or cut loss policy is detrimental to portfolios over time.

Owners Who are Not on Your Side

There are some high quality listed businesses in Malaysia, but unfortunately they are controlled by shareholders that make money differently from how you do as an investor (i.e. via share price appreciation and/or dividends).

The Malaysian corporate landscape is strewn with high quality businesses muddled by asset injections or acquisitions – unrelated diversifications, badly valued acquisitions or assets being flipped into the listed company for large profits.

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2017 Market Review and Outlook

2017 – The Return of Growth

With the return of growth, the year 2017 has seen an economic upswing that has lifted both global and regional markets in terms of asset returns and earnings recovery. Accelerating growth, but benign inflation has kept policy tightening at bay, creating the right conditions for risk-assets to perform well under a ‘Goldilocks’ environment.

Marked by global reflation, as well as a recovery in trade and manufacturing PMI – Asia scored top marks and appeared as one the best performers this year.

In Asia, the MSCI Asia ex-Japan Index advanced +37.8% (local currency terms), compared to the MSCI AC World Index which had gained +19.5% YTD (as at 29 Nov 2017).

The MSCI Asia ex-Japan performance was primarily driven by North Asia, with tech emerging as the key outperformer, across China, Korea and Taiwan.

China’s 9M’17 GDP growth has come in ahead of consensus expectations growing by 6.9%, with the MSCI China Index outperforming other Asia ex-Japan country Indices, increasing by almost +50% (USD terms) as at 30 November. The outperformance of China this year was the result of a potent combination of government stimulus, targeted regulation and SOE reforms.

An acceleration in public-private partnership (PPP) projects drove infrastructure spending demand, whilst supply-side and SOE capacity reforms helped reflate raw material and commodity prices which spurred restocking activities.

Whilst, rising household consumption and increased urbanisation through strong wage increases will place the planks for a long growth runway for its new economy sectors.

Although, we now see growth moderating for China in 2018, as it seeks to attain a more balanced economic model, after years of loose monetary policy that left its financial system flushed with liquidity and knee-deep in leverage.

Growth to Broaden in 2018

Going forward, the macro outlook looks promising with growth expected to remain robust and other global economic growth indicators revised upwards in 2018. The global growth cycle could now broaden-out across sectors and countries, aided by a revival in the capex cycle.

Improving business sentiment, a rebound in profits and benign credit conditions are driving new business investments and would lead to a pick-up in capital spending.

We believe the earnings recovery in China, Korea, Taiwan and India would continue to broaden towards South East Asia, which has been a laggard this year. Singapore, Thailand and Indonesia should begin to catch-up in 2018 from a low base effect in 2017.

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India on the Cusp of Reform

Modi’s Three-Year Scorecard

Three-and-a-half year into his tenure, Prime Minister Narendra Modi has embarked on a sweeping reform movement, fulfilling key campaign promises to boost job creation and increase foreign direct investment (FDI) into India.

With the introduction of pro-business policies, the administration hoped to untangle notorious amounts of red tape that has stifled business in the past, as well as revive growth within India’s vapid manufacturing sector.

Under Modi, India’s annual GDP grew from 5.5% in 2013 (before he assumed office in May 2014) to 7.5% in 2015 and 8.0% in 2016. [Source: India Central Statistics Organisation, Bloomberg]

Taking bold measures, Modi enacted India’s first national bankruptcy law in 2016 which would allow enforcement of contracts and a swifter resolution of insolvency cases that has weighed down on its financial system.

More economic reforms followed including a radical banknote demonetisation move last November which saw India scrap its high-value 500 and 1000 rupee currency bills, as part of efforts to stem corruption, curb its shadow economy and flush-out ‘black money’ from its financial circulation.

In July’17, India ushered its boldest economic move yet, rolling-out its first comprehensive Goods and Services Tax (GST) which replaced its prior complex multiple indirect tax structure. The GST Act would subsume more than a dozen state and central levies into one unified tax structure, bringing it under a single market.

The Pain of Reform

These reforms which are unprecedented, constitute important structural transformations that would expand India’s economic potential, bolster growth, and improve macro stability.

Yet, India stands at an important crossroad today – as the painful effects of reform begin to bite and wreak short-term economic havoc to both businesses and citizens across the country, as they adjust to these new changes.

India’s GDP slumped to a three-year low to 5.7% y-o-y for the quarter ended June. Both the World Bank and International Monetary Fund (IMF) have also cut their GDP forecast this year citing lingering effects of India’s sudden demonetisation which took out demand, as well as transition costs related to the new GST regime.

The disruptive effects caused by the implementation of GST was well publicised and can be seen by the fall in its manufacturing PMI which decelerated to 50.3 in October, pointing to a stagnation of activity and curb in inflows of new orders.

However, since then we’ve seen the administration making concessions for small businesses to ease their transition to the new GST regime.

But these are all short term pain for a better future.

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Benefits of Staying Invested

Why It Pays to Stay Invested

Investing is a long-term game. A marathon as opposed to a sprint, where an investor is more likely to achieve their investment goals if they stay invested and avoid making short-term decisions which often spring from emotional or rash decision-making.

This year, we have seen stock markets rally across globally with the FTSE 100, Germany’s Dax and the S&P 500 reaching record highs. Locally, the benchmark FBM KLCI is also charging towards the 1,800 points-level, climbing to a fresh two-year high.

Can this market rally be sustained? Well no one knows for sure. But the only constant in the investment-universe is change, and investors should always be prepared to brace for future volatility, in the event markets come to an unruly end.

Smooth Seas Never Made a Skilled Sailor

Volatility is to be expected in markets. Like waves in an ocean – one would get nowhere otherwise without the ebb and flow in markets that provide buying or selling opportunities.

Can small ripples suddenly turn violent and become sizeable tsunamis? Sure they can.

But what matters more is having a well-diversified portfolio that has the potential to weather against varying degrees of volatility and cyclical change. Feeling queasy about one’s investments when markets swing between highs or lows, is characteristically normal.

It’s how one decides to react, or if they should at all that makes a skilled investor. Determining the source of the volatility is key, especially in filtering out short-term noise from long-term fundamentals & economic realities.

Short-Term Pain Vs. Long-Term Gain

Staying put when everyone is beginning to jump ship can be unsettling for any investor. But sometimes sticking it out to endure short-term pain could mean the difference between recouping back all your losses & reaping higher returns, or missing the boat entirely just as markets begin to rebound

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