A Brief on Global & Local Markets, Investment Strategy.
Week in Review | 6 May – 10 May 2019
US ups ante by raising tariff on Chinese goods
The US refrained from holding back its punches this time around, as the 10.0% tariff on US$200 billion worth of Chinese imports more than doubled to 25.0% beginning Friday. President Donald Trump however downplayed the tariff hike, and suggested that talks with China remains “congenial” with “no need to rush” in yet another series of tweets.
Trump’s economic advisor, Larry Kudlow admitted in an interview that US businesses and consumers would have to absorb the cost that comes with the increase in tariffs. Though this may somewhat push US inflation a little higher from its current levels, we see limited translation from more tariffs to headline inflation given that majority of core prices – including medical, shelter and financial services cost among others – are domestically contained. In addition, consumers holding back on spending is also another possibility to ponder.
With recent inflation reading still treading on the lower end, our base case scenario is still inaction by the Federal Reserve for now; though a rate cut is not unimaginable especially if more downward surprises were to be observed in the coming months.
The return of volatility on the trade front has prompted most global equity gauges to close the session in the red. In Asia, the Hong Kong Hang Seng Index lost 5.1% while the broader MSCI Asia ex Japan Index closed 4.9% lower. Losses were extended at opening this week following China’s announcement to increase tariffs on US$60 billion worth of US goods, which will take effect on 1 June 2019.
We have since took the opportunity to raise some cash for our Asian equity mandates, and will continue to remain prudent in our allocation by avoiding sectors that would be directly impacted by tariffs. Cash levels range between 15.0-20.0% across our regional portfolios.
Updates on Malaysia: One year on
On the domestic front, the local market tracked regional losses with the benchmark KLCI edging lower by 1.7% as sentiment weakened due to headwinds from a brewing trade war. Malaysia also marked the first anniversary of the historic win that swept the Pakatan Harapan (“PH”) government into power following the 14th General Election.
One-year on, the local market seems to have reached a trough with the KLCI down 4.8% YTD and underperforming regional peers including Thailand. Despite being in political limbo without an official government since late-March, Thailand’s Stock Exchange Index is still up 5.5% YTD.
Part of the local market underperformance was self-induced as the PH government embarked on a slew of reforms to recalibrate the economy and focus on anti-corruption efforts. After losing a string of bi-elections, the government is now seen pivoting towards growth with the revival of mega infrastructure projects like East Coast Rail Link, Bandar Malaysia as well as various rural construction projects.
A recent survey conducted by independent pollster Merdeka Centre showed approval ratings of the PH government falling especially amongst young Malay voters who fail to resonate with PH’s message on fiscal consolidation. The country’s fundamentals remains intact with exports numbers holding up better compared to other trade-dependent countries like Korea. With the right growth-oriented policies in place, the underlying strength of the economy should start to re-emerge.
Shifting to technicals, there is also ample domestic liquidity in the market that would be supportive of a recovery as large cash-piles build up within pension funds, insurance firms and GLCs who have not been deploying money into the local market this year. According to channel checks, trading volumes within GLC firms have fallen by about two-thirds. Traditionally, Malaysia is seen as a defensive market due to the presence of large GLCs who can shore up support, though flows have been notably absent this year.
There is seen to be limited downside in terms of outflows with foreigners having exited the market since 2010 levels when central banks were embarking on quantitative easing at that time. According to MIDF Research net foreign outflows have reached RM3.28 billion YTD.
Looking ahead, there could be room for surprise on the upside with policy changes as the government switches tone and re-engineer growth. For now, the concentration of performance largely resides within the construction and small-cap space which came from deeply undersold positions last year. As evidence of growth starts to trickle-in and when flows return, we could see performance broaden to the rest of the stock market.
Fixed income updates & positioning
Markets were broadly risk-off last week, as investors flocked towards safe haven assets for refuge ahead of Friday’s tariff increase on US$200 billion worth of Chinese goods. US Treasuries rallied by some 5 bps, while the Japanese Yen also strengthened slightly over the week.
Albeit softening demand for the credit segment across EM and Asia in the week, the magnitude of the risk-off tone was comparatively milder than what was seen across the equity space – with inflows into regional bond funds still evident. Widening of credit spreads in the region was marginal; much contained by the already low Treasury yields. Additionally, news regarding the continuation in trade negotiations reported late last week did somewhat alleviate concerns and provide support for the credit market.
While talks between US and China have resumed, a concrete resolution to trade remains more distant than before; and markets may have to endure more volatility for the near term. In light of these developments, we have taken a more defensive positioning for our regional fixed income portfolios. Cash levels / holdings of cash proxies have been raised to near the 10.0% level to better navigate through this period of uncertainty.
Back home, BNM cut the Overnight Policy Rate by 25 bps to 3.00% last week; likely a pre-emptive measure against a weakening external environment as well as slowing domestic growth. The announcement was largely priced in by investors, which saw the MGS market rallied strongly in the few weeks prior to the announcement; though the buying subsequently eased up amid the recent addition of risks on the global trade front. The 10-year MGS benchmark yield closed the week at 3.79%.
Considering the more neutral statement by BNM after the rate cut, we expect the central bank to keep rates steady for the remainder of 2019 – provided that trade relations between US and China doesn’t deteriorate further. The MGS market is also expected to remain range-bound for the time being.
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