Positioning for market recovery in 2022

Positioning for market recovery in 2022
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Malaysia’s vaccination rate is rising faster than expected after the government started vaccinating the frontliners at the end of February. According to vaksincovid.gov.my, as at Sept 30, 2021, close to 62% of the country’s population had been fully vaccinated, which is as good as the developed markets that started their vaccination programmes much earlier. Around 86% of adults were fully vaccinated.

The high vaccination rate has led to a decrease in Covid-19 cases and the government has reopened the economy gradually and eased movement restrictions throughout the country.

Specifically, the government eased Covid-19 restrictions in the Klang Valley — which comprises Selangor, Kuala Lumpur and Putrajaya — and moved to Phase 2 of the National Recovery Plan (NRP) on Sept 10 and Phase 3 on Oct 1. This is positive for the domestic economy as the Klang Valley is estimated to contribute around 40% to Malaysia’s GDP. No states remain in Phase 1.

The easing of movement restrictions is expected to benefit small and medium enterprises (SMEs), which account for more than two-thirds of the jobs in the country and contribute almost 40% to the Malaysian economy. This will have a positive impact on domestic consumption and the economy is expected to gradually recover starting in September.

In addition, interstate travel and tourism activities have been allowed to resume as the vaccination rate for adults has reached 90%.

We expect the government to continue with an expansionary budget for 2022 to support the recovery of the domestic economy. The budget deficit ratio is likely to remain above the -6% level and may be supportive of the recovery in the construction, property, automotive and tourism sectors. Aid given to SMEs are expected to be maintained.

Historically, the FBM KLCI tends to follow the direction of corporate earnings growth. Malaysia’s corporate earnings growth peaked at the end of the first quarter of 2021 and has come down since then.

Despite the full lockdown, corporate earnings growth estimates have been very resilient and only came down by 6.7% in September from early June, compared with more than 10% during the first Movement Control Order period in the second quarter of 2020. However, we expect it to weaken in the third quarter of 2021 due to the lockdown imposed in May.

The Ministry of Finance’s suggestion that banks waive interest payments for the B50 category is expected to have a negative impact on the banking sector’s earnings and will affect overall corporate earnings growth. But the impact is not going to be significant. We should see another round of corporate earnings upgrades when more sectors of the economy reopen.

We believe the tensions in domestic politics have improved and, coupled with economic improvements, the equity market is expected to perform better.

Glovemakers, tech companies and EMS players to shine

We are positive on exporters, namely, glove manufacturers, tech companies and electronics manufacturing services (EMS) players.

While glove companies face labour and environmental, social and governance (ESG) concerns that impact valuations, global demand for gloves remains high as the pandemic is ongoing due to the spread of the Delta variant. Most manufacturers still have orders for more than a year. The average selling prices of gloves, albeit off their peaks, appear to be moderating and are largely within market expectations.

The technology sector’s valuations remain above mean levels, but we reiterate our positive stance on the sector. The recent developments have not changed the fundamentals of technology companies, with many of the stocks under our coverage locking in record profits in recent quarters. We expect the trend to continue throughout 2021 as global semiconductor demand remains robust. We also continue to like EMS companies as the prime beneficiaries of trade diversion.

Another investment theme is the reopening of the economy, which has likely passed its lowest point. As the vaccination rate continues to rise, we should start seeing a decrease in the number of Covid-19 patients requiring hospitalisation. This would mean the worst is over for domestically driven sectors such as consumer discretionary, real estate investment trusts (REITs) and retailers. Share price weakness in these sectors have also largely been priced in, in our view.

The property and automotive sectors have been relatively resilient, reporting better-than-expected sales numbers despite the lockdowns.

Keeping an eye on capital gains and windfall taxes

Despite our positive view on the equity market, we expect the market to be volatile due to the mooting of capital gains and windfall taxes. Market players are also concerned about the energy crunch in China. If prolonged, it will likely have an impact on Malaysia and global GDP growth. Meanwhile, a rising US inflation rate, caused by higher energy prices, will introduce uncertainties in the market.

On interest rates, given the gradual reopening of the Malaysian economy and in the aftermath of the series of lockdowns this year, we believe the overnight policy rate (OPR) should remain unchanged at +1.75% to support domestic growth. Factors that support such projection include the central bank’s revisions made on lower GDP growth rates of 3%-4% and domestic inflation rate (or CPI) of 2%-3% for the whole of 2021. These forecasts were much higher at 6%-7.5% and 2.5%-4% respectively when we started this year.

In terms of fixed-income portfolio positioning, we would recommend a portfolio duration of about four to six years to minimise interest rate risk and price volatility arising from overall tapering calls in the US, which may, to some extent, affect the yields of local bonds or sukuk. Such duration also falls around the belly of the yield curve, where interest rate risk is assumed to be moderate.

As most economies, whether locally or globally, are somewhat reopening, we expect investors to take on more credit risk. This would improve the overall yield of a portfolio. Credit risk should also be manageable, underpinned by a stronger economic recovery moving forward.

Sectors to look at in the bond space is synonymous with that of the equity market, with the main investment theme being economic recovery. Having said that, careful analysis of the cash flows of issuers is of paramount importance as we search for yields. A bottom-up credit assessment to ensure that the bond or sukuk issuer has the capacity to make repayment is key.

At RHB, our Relationship Managers and Investment Specialists stand ready to work with you to formulate an effective investment strategy to achieve your long-term investment objectives.

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