This article first appeared in The Edge Malaysia Weekly on July 27, 2020 - August 2, 2020

The Covid-19 pandemic and resulting varying degrees of lockdowns on a global scale must count as one of the most unexpected events in recent memory. It has certainly upended the upbeat global economic consensus forecasts at the start of the year.

Over the last few months, we have covered a wide range of topics related to the outbreak, including its impact on corporate liquidity and solvency, the economic fallout and shape of the recovery as well as our behavioural changes, some of which will serve to hasten unfolding secular trends.

We have also written about the urgency in preventing a second wave of “economic virus” under the new normal of stringent standard operating procedures (SOPs) as we work to keep the health crisis from flaring up again. That includes lowering interest rates, for a period, to reduce the burden on businesses and individuals most affected by the pandemic. We wrote that based on yield differentials against most develop­ed countries, there is room for Bank Negara Malaysia to cut rates.

Notably, yields on the 10-year Malaysian Government Securities (MGS) fell to a record low of 2.62% last week. Malaysia recorded a strong surge in foreign fund inflows into the bond market, totalling RM11.6 billion in June, which is the highest monthly net inflow since May 2014.

Last week’s drop in yields suggests that foreign inflows remain high — and could persist for the foreseeable future. Even now, the yield differential between the MGS and US Treasury remains near the widest in two decades.

While easier monetary policy and direct fiscal aid will offer breathing room to protect productive capacities and livelihoods in the short term, more substantive measures must be undertaken — not just to lift the country out of recession but to drive sustainable, quality growth in the long run.

Most governments of the world are embracing the traditional Keynesian macroeconomic response to recession, which is to stimulate aggregate demand through tax cuts and fiscal spending.

Malaysia should take a higher-level approach. Rather than focusing only on stimulating consumption, what we would really like to see is a pivot to production.

It is time to drive longer-term growth by raising production and efficiency, thereby lowering the cost of living for Malaysians while enhancing Malaysia’s competitiveness in the global market and reinvigorating investments that will generate jobs and higher incomes.

To do so requires thinking out of the box — unshackling ourselves from the traditional way of doing things. We have laid out our propositions — including four case studies for structural reforms of existing ecosystems — in a Special Report entitled “Pivoting from consumption to production” (see pullout).

On a separate note, we have a business proposition for all entrepreneurs out there. The project currently has a pre-tax profit margin of 25%. Selling prices will increase by 10% every month from here on, ceteris paribus. This means that prices for the product will double — and then double again over the next year or so. Accordingly, so will margins and profits. Anyone interested in investing in this project?

Sounds too good to be true? This is, in fact, the storyline that has propelled glove maker stocks to record-high levels. As fast as their share prices have gained, analysts have been equally quick to ratchet up their price targets.

We understand why brokers continue to promote glove maker stocks — they are big, liquid companies that can generate substantial business volumes. Will their share prices go higher? Probably.

But let’s be honest. Storyline and liquidity are driving the current market rally, not just in the Malaysian bourse but also in markets worldwide. To pretend otherwise, to try to justify higher prices with fundamentals, simply does not wash.

Case in point: There is one broker report that almost doubled its price target for local glove maker Top Glove Corp Bhd to RM46 — and went on to postulate that its fair

value could be as high as RM110!

We are all entitled to our opinion, but to assume that demand is unlimited and will continue to drive selling prices higher and higher with no consequences on supply — or anything else — is preposterous.

At RM110, Top Glove’s market cap would top RM296 billion! That is 3.4 times the market cap of Malayan Banking Bhd (Malaysia’s biggest bank) and 4.3 to 4.6 times the size of Public Bank Bhd and Tenaga Nasional Bhd.

Even the biggest glove makers in the world are just manufacturing outfits with little proprietary intellectual property. Indeed, the sector employs tens of thousands of low-skilled foreign workers.

Yes, selling prices are rising because of robust demand and lag in production capacity expansions. What happens beyond one to two years? Even at the current price of RM24.70, Top Glove is already trading at nearly 20 times its net asset value, 22 times total fixed asset and 144 times normalised, pre-pandemic net profits — and quite probably post-pandemic as well. Hypothetically, with that market cap, one could set up a plant with 20 times the production capacity, plus change.

There is clearly excessive speculation, underpinned by massive liquidity, in some sectors such as healthcare and technology. It is difficult to predict when reality will send their prices crashing back to earth, but it will happen. We are reassessing our portfolios to possibly rotate out of growth to more value-oriented stocks.

This being the case, we disposed of our entire holdings in Kotra Industries Bhd after its strong share price surge. We believe prevailing prices fully reflect near- to medium-term prospects.

We acquired a small and “boring” corrugated paper packaging products manufacturer Master-Pack Group Bhd. The stock is trading at less than seven times trailing 12-month profits and 0.95 times net asset value. The company has net cash of about RM21 million. With raw material prices expected to remain steady in the foreseeable future, Master-Pack should perform reasonably well despite the prevailing difficult economic environment.

The Malaysian Portfolio gained 6.4% last week, lifting total portfolio returns to 71.5% since inception. This portfolio is outperforming the benchmark FBM KLCI, which is down 12.2%, by a long, long way.

The Global Portfolio performed well for the week ended July 23, gaining 1.9% and boosting total portfolio returns to 26.9% since inception. This portfolio is outperforming the benchmark MSCI World Net Return index, which is up 16.2% over the same period.

All but two stocks in our portfolio ended higher for the week. The top gainers were Builders FirstSource, Inc (up 5.8%), Service­Now Inc, Alphabet Inc, Home Depot Inc and Adobe Inc. The two losing stocks were Vertex Pharmaceuticals Inc and Apple Inc.

Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports.

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