Thursday 28 Mar 2024
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This article first appeared in Capital, The Edge Malaysia Weekly on December 26, 2022 - January 1, 2023

FOLLOWING the US Federal Reserve’s (Fed) aggressive rate hikes in 2022, US stocks slipped into bear territory in June as global investors came to terms with the end of abundant liquidity and adopted a risk-off stance in their investment decisions.

Global equities, including Asian stocks, have also been facing strong global headwinds, including from the Russia-Ukraine war that dealt a major shock to commodity markets, as well as China’s stringent zero-Covid policy, which severely disrupted the global supply chain.

Notably, the three most prominent indices in the US, namely the Dow Jones Industrial Average, the S&P 500 and the Nasdaq Composite, all dropped 21% to 32% in the first nine months of the year. Since October, the Dow and S&P 500 have regained lost ground by 15% and 7% respectively.

Closer to home, the FBM KLCI fell 11% in the first nine months before rebounding by 6% since October. Year to date (YTD), although the local benchmark index is still down by about 6%, its drop was significantly lower than that of the Kospi (-21%), the Hang Seng Index (-17%), the Shenzhen Stock Exchange Component Index (-19%) and the Shanghai Stock Exchange Composite Index (13%).

After four consecutive radical rate hikes of 75 basis points (bps) each to combat the highest inflation in the US in 40 years, the Fed raised the interest rate by another 50bps in mid-December. The increase of 350bps within a year is the Fed’s fastest pace since the 1980s.

While the jury is still out on whether the Fed’s hawkish stance could lead to a possible US recession, one thing is for sure — investors are bidding farewell to the ample liquidity and low interest rate environment, which had fuelled the multi-year-long rally in equities.

Tradeview Capital Sdn Bhd portfolio manager Neoh Jia Man observes that local equities performed relatively well in 2022, considering that the KLCI had only declined by less than 7% YTD, outpacing major Asian counterparts.

“This served as a testament to the defensiveness of the local market, but we think that it could have done better if not for several extraordinary factors such as the EPF (Employees Provident Fund) withdrawals and political uncertainties,” he tells The Edge.

Despite the broad-based market weakness, Neoh highlights that it has been a decent year for Tradeview Capital, with assets under management (AUM) of RM50 million after recording a positive return of more than 4% over the seven months since it started in April, thanks to its focus on capital preservation.

“Value stocks such as Focus Point Holdings Bhd, Deleum Bhd and Malayan Flour Mills Bhd have done well for us. Furthermore, our lack of exposure to the technology sector is another saving grace as we were prudent with its outlook and steep valuation,” he explains.

Fortress Capital Asset Management (M) Sdn Bhd investment director Chua Zhu Lian acknowledges that it has been a challenging year for equities, given the underlying political uncertainties and lack of clarity on the nation’s direction on the domestic front and volatility on the global front brought about by geopolitical tensions and unpredictable policy direction, including the prolonged Covid-19 lockdown in China.

“Nevertheless, retail, consumer, and food and beverage (F&B) counters have been large outperformers in the current operating environment, supported by the special withdrawals from the EPF,” he tells The Edge.

Chua, however, points out that some manufacturers have observed that domestic demand for their products started to soften in October. “These are early signs that the accelerated domestic consumption from the special withdrawals has begun to wane,” he warns.

Malacca Securities head of research Loui Low Ley Yee thinks the overall performance of local equities is rather mixed.

“We noticed the oil and gas (O&G) and transportation sectors are the ones that outperformed. Broadly speaking, it is quite hard to outperform the market this year, especially as most of the mid and heavyweights were trending sideways throughout the year without significant catalysts, while IPO-­related stocks gained the most attention,” he tells The Edge.

Low admits that the first half of the year (1H2022) was challenging as the research unit’s stock picks were down 14.3% and 4.5% in 1Q and 2Q respectively.

“We regained momentum in 2H2022 with several best performers like Shin Yang Shipping Corp Bhd, Hextar Global Bhd and Signature International Bhd. Both 3Q and 4Q were profitable based on our virtual portfolio, advancing 13.8% and 10.5% respectively. Overall, our virtual returns are 5.5% (as at Dec 13),” he says.

EPF withdrawals and impact on markets

The EPF has a dominant position in the marketplace — holding 27% of Malaysian Government Securities (MGS), 21% of corporate bonds and 16% of local equities. It was reported that a whopping RM145 billion was withdrawn by EPF members under four Covid-19-related withdrawal programmes, namely i-Lestari, ­i-Sinar, i-Citra and Special Withdrawal. For perspective, RM14.55 billion was withdrawn in 2020, followed by RM86.2 billion in 2021, and RM44.6 billion in 1H2022.

An analysis by CGS-CIMB reveals that from 2018 to 2020, local institutions were net buyers of RM8.2 billion to RM10.1 billion of local equities annually. However, they turned into net sellers in the local equity market in 2021, which the research house believes could be due partly to large one-off EPF withdrawals.

The RM145 billion withdrawals are equivalent to 15.6% of the EPF’s total AUM of RM925 billion as at Dec 31, 2019 (before the withdrawal schemes were implemented). As at September 2022, EPF’s AUM was RM961 billion and its investment in equities accounted for 41% of total investment assets.

So, how have the EPF withdrawals affected the performance of local equities and bond markets in 2022? Has the organisation been rebalancing its portfolio and prematurely selling assets to accommodate the additional liquidity needs?

According to Bloomberg’s MGS 10-year yield chart, the two peaks were in May and October. Was it due to the EPF’s selling and risk aversion on the back of rate hikes in the US?

Tradeview Capital’s Neoh thinks that the EPF withdrawals affected the 2022 market performance via the selldown of selected index heavyweights in the banking and telecommunications sectors.

“Nonetheless, we believe the EPF already has sufficient liquidity management measures in place to avoid premature divestments that could negatively impact members’ interest,” he remarks.

Neoh is not overly concerned about the rising MGS yield, given that it mainly reflects the hawkish monetary policy in the US, not deteriorating domestic fiscal balance.

“The impact of the EPF’s withdrawal on the MGS yield, in our view, has been limited. The key contributing factor remains the Fed rate hikes,” he adds.

Neoh is hopeful that the EPF’s injection into the local market will recover.

“However, its strategic asset allocation (SAA) also matters, and we do not rule out the possibility that a larger proportion of members’ contributions might be allocated to asset classes other than equities due to prudence,” he states.

Fortress Capital’s Chua notes that the EPF’s diversification into different asset classes, markets and currencies, as prescribed in its SAA investment framework, has helped the fund remain resilient against turbulent market conditions and protect its long-term investment returns. Besides equities, the EPF also invests in fixed-income instruments, real estate and infrastructure, private equity and money market instruments.

Chua is of the view that EPF’s investments in fixed-income instruments, which include Malaysian government bonds, continue to provide a steady stream of income, mitigate the impact of short-term market volatility and offer stability to the EPF’s overall revenue. “Given their initiatives, I believe the EPF still adopts a very systematic investment framework amid withdrawal programmes that are expected to be one-off in nature, given the Covid crisis, which is an outlier event.”

However, he is less optimistic about the recovery of EPF contributions in the short run as he believes the pandemic and a series of unfortunate catastrophes such as floods have dented the recovery of the people’s earning power and created a higher informal job economy that does not contribute to the EPF.

Malacca Securities’ Low insists that the withdrawal from the EPF has very minimal impact on equities, given that withdrawal is quite normal on a yearly basis.

“More importantly, the growth and earnings quality of the corporations on the local front are having more weight, affecting the stock markets in general. Overall external factors such as inflationary pressure as well as recession concerns could be the culprit that dampens sentiment on the local front,” he says.

New government to restore investor confidence?

The political uncertainty in Malaysia since the Covid-19 outbreak in early 2020 has weighed on the local equity market. But as Datuk Seri Anwar Ibrahim was sworn in as the new prime minister in November, with Malaysia now having a full line-up of ministers and deputies, will the domestic political climate become more stable and, hence, restore investor confidence, especially that of foreign investors?

It is worth noting that foreign investors turned net buyers of RM4.5 billion of Malaysian equities (YTD as at Dec 15) after four years of net selling, as most foreign funds have underweight ratings on Malaysia due to concerns over political stability.

“The current foreign shareholding of 20.7% as at end-November is close to the all-time low of 20.3% since data was made available in 2007. As such, we believe the downside from potential foreign selling may be limited. Foreign investors could turn more positive on Malaysia in 2H2023 if the Anwar-led unity government can bring political stability to the country and attract higher domestic and foreign investments,” says CGS-CIMB in a Dec 16 report.

Tradeview Capital’s Neoh believes the removal of the political overhang should bode well for the local market. Moreover, as Anwar cruised through a vote of confidence, he expects investor sentiment to be largely restored.

“As foreign equity holding is near historical trough at only 20.7% as of end-November, it is clear that foreign investors have been underweighting Malaysian equities. This could change as the domestic political climate improves and the ringgit recovers relative to the US dollar. Hence, we expect a pickup in foreign fund flow,” he explains.

Neoh says market rhetoric will likely shift towards recessionary fears, away from inflation worries as the lagged impact of rate hikes kicks in.

“We believe the Malaysian stock market is in a good position to outperform its peers heading into 2023. While cash and fixed income securities are safe bets, we do see pockets of opportunities in equities,” he stresses.

Tradeview Capital will focus on defensive, dividend-yielding and value stocks to take advantage of the potential valuation re-rating from a decline in long-term interest rate expectation while also protecting its customers’ capital.

“In our view, the consumer staples sector not only ticks all the boxes, but also offers earnings upside from softening commodity raw material costs,” Neoh says.

Fortress Capital’s Chua concurs that the ground sentiment has generally turned more positive since Anwar was sworn in as the tenth prime minister. However, the key as to whether Malaysia will be able to restore investor sentiment lies in three things: (i) stability of the government and its policies, with adequate governance to provide investors with assurance; (ii) liberalisation of economic policies; and (iii) liberalisation of human capital movement.

Chua points out that within Asean, Indonesia, Thailand, Malaysia and Vietnam enjoyed YTD net foreign equity inflows, with Malaysia accounting for a 9% share of Asean’s net purchases.

“Generally, Asean has been one of the largest beneficiaries of macro events such as the US-China trade war and cost escalation in major producing economies such as China. Malaysia has also benefited greatly from this positive spillover and can certainly be an even larger beneficiary if the country gains a competitive advantage against the neighbouring countries from forward-looking and strategic government and economic policies,” he says.

Chua adds that equities will likely outperform in 2023. As long as investors focus on an investment strategy focused on fundamentals and look into companies that are undervalued, they will be able to ride on a strong recovery.

Malacca Securities’ Low is optimistic that the new unity government could attract more investments.

“We expect with the strengthening of the ringgit, it should provide more catalyst for investors to participate in Malaysian equities. Meanwhile, should the re-tabling of Budget 2023 offer more attractive policies and changes for the betterment of the nation by rebooting the economy, we expect GDP (gross domestic product) to sustain at around 4% to 5% in 2023. That may translate to further upside on the KLCI and boost sentiment on the stock market. The KLCI should be able to retest 1,600 once we have a clearer picture from Budget 2023 in January,” he predicts.

 

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