A Brief on Global & Local Markets, Investment Strategy.

Week in Review | 6 – 10 November 2017

Volatility Rise as US Tax Reform Hits a Snag

Volatility spiked last week on fresh concerns surrounding progress on US tax reforms which appear to have hit a snag. The VIX Index which measures volatility rose from a year-low of 9 points to 11 points, as the House Republicans continue to face fresh resistance over its new tax bill which proposed deep-tax cuts and to slash tax rates.

Capping its federal deficit to US $1.5 trillion is proving to be a delicate task for the administration, as stakeholders have voiced concerns over its proposed move to eliminate certain tax credits and exemptions. A reduction of mortgage interest deduction for newly purchased homes at US $500,000 from the current cap of US $1 million is another point of contention in the new tax bill among stakeholders.

Bond markets are pricing-in these newfound pessimism, as momentum for tax reform appears to falter. Yield spreads between 2-Year and 10-Year Treasuries have hit a low of 68bps last week – which is below the key-spread level of 75bps that was last seen in June’16 in the immediate aftermath of the Brexit vote, when global major central banks across DM turned dovish.

The flatness of the yield curve looks peculiar in the face of decent growth overall in the US and globally – thus the flatness could be signalling growing market scepticism over US tax reform. US Treasuries were trading range bound between 2.30% – 2.40% last week.

Similarly, the US dollar remained range-bound, as the special probe over alleged US-Russia collusion in last year’s elections continue to cast distractions in the Trump administration.

Saudi Purge Consolidates Power on Crown Prince

The purge in Saudi Arabia continues, as arrests involving senior princes, government ministers and businessmen on the orders of King Salman, as part of an alleged anti-corruption campaign that has stoked geopolitical risks in the region, but also simultaneously provided a boost crude oil prices.

The arrest included Prince Alwaleed bin Talal, the multibillionaire tycoon with strategic stakes in Citibank, and Twitter, among others. The purge would consolidate power on the Crown Prince Mohamed bin Salman, aged just 32 who many believe embodies the aspirations of the Saudi youth and ability to usher in new reforms for the Kingdom.

Spillover effects from this heightened risk is likely to be contained, with limited room for crude oil prices to trend upwards. Within Asia credit, we saw some weakness, but this is probably due to markets and fund managers in general beginning to take profit as we move closer to the year-end. Our strategy is to slowly buy into any weakness for our portfolios.

Earnings Season Kicks-Off as Singles’ Day Wraps Up

3Q’17 reporting season is currently underway with 90% of companies in the S&P 500 having announced results. The S&P deliver an earnings beat of over 4.5%, whilst the tech-heavy Nasdaq delivered an earnings surprise of close to 9%, with 80% of companies having released results.

Asia proves to be no slack as well, with the MSCI Asia ex-Japan delivering an earnings beat of 8.8% as Singles’ Day wrapped up its most successful haul yet with over US$ 25 billion in sales, which exceeded expectations. The holiday dedicated to China’s single and unhitched population saw almost 90% of transactions done via mobile, with more non-mainland Chinese taking part in the annual shopping frenzy.

Singapore Banking and Property

Singapore banking and property stocks have outperformed the market, owing to an economic recovery as growth returns in the state-island. Stronger lending and improved margins have provided a boost to banking stocks, whilst implementation of an upcoming accounting standard will accelerate the recognition of non-performing loans (NPLs), which will help clean-up its books and allow them to start with a low-base next year.

Property prices appears to have bottomed-out in the 3Q’17, as volumes accelerate by over 60% y-o-y. Price recovery is expected to follow-suit between 5% – 10% next year, as the sector carves out a rebound once inventory clears, which then forces prices to move upwards.

Ringgit Rallies as Bank Negara turns Hawkish

Bank Negara Malaysia (BNM) held the benchmark overnight policy rate at 3% last week in its policy meeting, but hinted at future interest rate hikes next year. The more hawkish policy statement from BNM, comes at the onset of stronger GDP growth, where the central bank cited that the country’s economic growth had become more entrenched, and would remain strong next year.

Private consumption would continue to be the largest driver of growth, supported by improvements in income and overall labour conditions. Core inflation is expected to accelerate above 2.4% next year, on the back of Budget 2018 and its various targeted measures aimed at consumers and the B40.

The Ringgit rallied to 4.19 against the greenback last week, with yields on the benchmark 10-year MGS yield spiking up to 4.15% from 4.01%, before consolidating to 4.06% before markets-close on Friday. The 10-year MGS yield is not expected to dip below 4% in the near term due to the prospect of an interest rate hike. As such, the weakening bias of Ringgit bonds may exert pressure on yields. On our investment positioning, we maintain a Short to Neutral duration within our Ringgit portfolios, and will look to deploy our cash-holding when yields are attractive.

Updates on Local Equities

A read-through of BNM’s statement and its implications to local equities suggest that not only growth remains robust, but is also expanding beyond the manufacturing sector. Growth is also seen spreading towards more broader-based economic segments, as a stronger Ringgit remains supportive of consumption.

A combination of strong GDP growth and a rising yield-environment will make conditions favourable for the banking sector, and possibly lead to fatter margins once the economic up-cycle catches up. Notwithstanding, any future interest rate hikes by BNM next year will be gradual and is unlikely to choke-off any of the yield-plays in the equity-space.

Some sell-off was seen within the construction sector, as foreign players are expected to take the lead in the upcoming third Mass Rapid Transit Line (MRT3) tender which has been called ahead of schedule. Local construction players are unlikely to have the balance sheet capacity to meet the financing criteria required by the tender. Thus, a foreign contractor would likely emerge as a turnkey lead, with local players now having to share margins as subcontractors for other works.

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