This article first appeared in Personal Wealth, The Edge Malaysia Weekly on April 9, 2018 - April 15, 2018

Malaysians are expecting the 14th general election (GE14) to be called anytime now. While the anticipation has benefited the local market as a near-term booster, investors should seek stability and increase the “defensiveness” of their portfolios this year due to the external risks, says Fu Yew Sun, chief investment officer at AmFunds Management Bhd (AmInvest).

Although GE14 could be a market driver post-polling day (based on historical data), higher volatility is still expected this year due to external factors such as higher expectations of inflation, a potential rebound of the US dollar and a possible trade war between China and the US. “GE14 is a local factor, which will likely have a short-term impact. The real impact on the local market always comes from the global economy,” says Fu.

“Malaysia is part of the emerging markets (EMs) that are benefiting from the equity upward cycle. This is probably 70% of what is driving the local market. We believe the reasonable course of action for investors closer to GE14 is to maintain a defensive stance and stay agile,” he adds.

“We do not expect a strong trending run like last year. Hence, it won’t hurt to take a bit of money off the table and watch how the election pans out.”

Within Asia, AmInvest still favours Malaysia as it is a low-beta market, which is less vulnerable in a downturn yet provides upside in a volatile market. Relative to previous years, the local market’s performance was reasonably good in 2017. The FBM KLCI gained 9.6% while Malaysia’s gross domestic product grew at a relatively decent 5.9%.

The growth is expected to continue this year, although not as much as last year. According to Fu, the robust global economy, coupled with still-benign inflation, is still pointing to risk-on markets such as EMs, including Malaysia. Additionally, the oil price recovery is expected to boost the local economy and market sentiment, apart from strengthening the country’s current accounts and supporting the prospects for further ringgit recovery, he says.

Opportunities in the local market

Last year, investors enjoyed the equity rally led by North Asian companies at the forefront of the technology cycle, such as Samsung Electronics Co Ltd and Alibaba Group Holding Ltd. These companies are scalable and able to expand their services all over Southeast Asia. This led to very strong top and bottom line earnings growth and good overall market performances.

Locally, however, the FBM KLCI only enjoyed decent single-digit growth, making it one of Asia’s underperformers. However, this is mainly due to the fact that the index comprises old-economy stocks, unlike the outperforming indices in the region, says Fu.

“The FBM KLCI’s component stocks are mainly in old-economy sectors such as banking, telecommunications and utilities. The earnings growth prospects of these sectors are unlikely to decouple from the 5% to 6% GDP growth of the country.”

Meanwhile, Malaysia’s small and mid-cap stocks were in the 20% return range last year, making it an attractive segment. Fu says a few factors led to this performance. The first is that unlike the FBM KLCI constituents, these companies are geared towards global growth and market consumption, with scalability in their business profiles.

The small and mid-cap stocks also benefited from a very good demand-versus-supply situation, says Fu. “There are only so many stocks on the FBM KLCI that the institutional players can buy. That is why the mid-cap and, to some extent, small-cap stocks enjoy the spillover effects from these institutional buyers. On its own, however, the small-cap segment is not very strong as most of them are retailers that were very volatile at the beginning of the year.”

AmInvest continues to favour sectors driven by reflationary trends such as financial and materials, says Fu. Meanwhile, it is cautious about sectors such construction and property.

“We need to be selective and company-specific when it comes to allocations to these sectors because we do not know the extent to which the external factors will impact the local industry.

“We are selective on construction companies despite the rolling out of mega projects as we think only selected leading players stand to capture the upside here. Additionally, we are least positive on the property sector for now as we think it will take time for the supply-demand dynamics to recover, especially in the face of high consumer leverage levels,” says Fu.

Stock picking is something that investors should do this year, says Fu. “Last year, investors could do well just by buying into exchange-traded funds. But this year, as it is more volatile, there will be a need for differentiation between the companies. Bottom-up stock picking and diversification will give quality to their portfolios to make sure investors do well this year.”

The ringgit has had a strong run this year and analysts suggest that it could head towards 3.80 against the US dollar in the near term. However, in the long term, the ringgit’s performance will highly depend on the behaviour of the US dollar, says Fu.

“This year, the ringgit’s performance still depends on the US dollar trend. Even after appreciating from 4.10 to 3.90, the ringgit still has a long way to go to get back to where it came from. It may not reach 3.20, but it is not unreasonable to expect it to hit 3.80,” says Fu.

The positive outlook on both the ringgit and local equities is likely to lead to further foreign fund inflows, he adds. Last year, foreign investors recorded net buying of RM10.35 billion after three years of net selling. Foreign investors who have remained on the sidelines would likely return to the market post-GE14 with more confidence once the uncertainties over the election subsides.

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