Monthly Outlook & Strategy - DBS Research 2017-03-06: Inflation bets, M&A plays

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Monthly Outlook & Strategy - Inflation bets, M&A plays

• March events to hold back the bull temporarily.
• Earnings upgrades push up growth to 9.3% for 2017(F).
• Pare exposure to REITS, place inflation bets and ride on M&A fever.

Earnings upgrades, not downgrades! 

• For the first time in two years, the earnings revision trend has turned positive, +2.4% for FY17F and +4.1% for FY18F, pushing up STI’s earnings growth to 9.3% in FY17F and 6.1% in FY18F. 
• Key upgrades came from the banks UOB and OCBC as well as crude palm oil (CPO) stocks Bumitama Agri, First Resources and Wilmar International.

Market Outlook 

Will a March hike set the path for quarterly rise? 

• Macro events are back in focus this month. The first is the FOMC meeting on March. With January inflation rising to a 5- year high of 2.5% and the unemployment rate falling to 4.8%, the odds for a rate hike this month spiked to 90% with consensus expecting three rate hikes this year (source: Bloomberg).
• A rate hike in March could set the path for one rate hike per quarter or four hikes this year as the previous hike was in December last year. DBS Research has forecast four rate hikes this year, lifting the FED funds rate to 1.75% and expects a total of 7-8 hikes (200 bps) by the end of 2018.
• Dutch election sets stage for key elections across Europe The Dutch parliamentary elections on March 15 will set the stage for key elections across Europe this year. Far-right populist Geert Wilders and his Dutch Freedom Party (PVV) continues to fare well in polls, running neck-and-neck or even taking the lead to the incumbent’s People's Party for Freedom and Democracy. Wilders has called for a Dutch referendum on leaving the EU and campaigns to stop the alleged “Islamisation of the Netherlands”.
• The Euro will come under pressure if populist anti-EU parties win at elections across Europe. Singapore companies with currency and business exposure to Europe may be affected if the Euro weakens sharply. Companies with more than 20% Euro exposure are Ascott Residence Trust (21% of net property income (NPI)), IREIT Global (100% NPI) and HPH Trust (20-30% of outbound cargo to Europe).

Chartist view : STI’s uptrend losing momentum 

• In the short-term, we expect a pause to the current rally. The uncertainty over a possible March rate hike and the French elections in April offsets optimism that the Singapore economy is turning for the better, and the April-May ex-dividend period.
• On the technical charts, we observe negative divergences on both the daily MACD and the 14-day RSI indicators. The 14- day RSI has also turned down from an overbought level of 70. These forewarns that STI’s YTD rally is losing momentum. 
• We peg a short-term range from 3050 to 3150. The 3050 support level coincides with 13.25x (-0.25sd) 12-month forward PE. To the upside, we believe any attempt to break above 3150 will not sustain in the short-term as the 3200 level that coincides with 14.04x (+0.25sd) 12-mth forward PE is a formidable short-term resistance.
• Equity markets may have to get pass the March FOMC meeting and the April French elections before resuming their climb.

Strategy 

Riding an inflationary, rising interest rates environment 

• The probability of a FED rate hike this month has shot up to 90% on optimism that the US economy is poised to recover further this year. 
• DBS Research forecasts four rate hikes this year lifting the FED funds rate to 1.75% and expects a total of 7-8 hikes (200 bps) by the end of 2018. Our Singapore economist lifted 2017 CPI forecast to +1.2% (from +0.9%), reversing from a deflationary -0.5% figure in 2016. 
• Look to ride upon an inflationary and rising interest rates environment.

Negative for SREITS 

• SREITs, which have underperformed most other sectors YTD, will continue to do so. 
• DBS Research forecasts the MAS 2-year & 10-year SGS yields rising to 1.95% and 3.05% respectively by end-2017. 
• A 1% interest rate increase will see SREITs dividend distribution falling by 2.9%.

Top slice selected REITS which have outperformed 

• Any funds flow out of the S-REITs sector will affect the large cap stocks. Those with currently less than 10% upside to our TPs are Ascendas REIT, Suntec REIT, Mapletree Commercial Trust, Mapletree Logistics Trust and CapitaLand Commercial Trust. 
• Small-cap S-REITs with less than 5% upside to our TPs are Cache Logistics Trust, IREIT Global, Cambridge Industrial Trust, Ascendas India Trust, SPH REIT and OUE Commercial REIT. 
• Top slice Suntec REIT and SPH REIT.

Banks have done well - pause for a breather 

• While banks should be underpinned by NIM uplift from rate hikes, we do not see stock prices powering much further in the short-term because 
  1. higher NIM expectations have been factored-in with the strong share price performances since Trump won the elections last November 
  2. NIM uplift could be muted for OCBC and only become more apparent in 2H17 for UOB. 
• Take profit on OCBC.

Commodity, oil and gas stocks are good inflation bets 

• We prefer the O&G and commodity sectors to ride on the global economic recovery and rising inflation environment. Our O&G picks are Sembcorp Industries, Sembcorp Marine, Ezion, Mermaid Maritime and PACC Offshore Services Holdings.
• While Sembcorp Marine has exceeded our fundamental TP of S$1.78, our technical objective is S$2.20 followed possibly by S$2.47. 
• Our CPO picks are First Resources and Bumitama Agri.

M&A plays on the roll. 

• 2017 started with a bang, with five takeover and privatization deals announced in just two months. This trend will continue given the attractiveness of Singapore’s small medium enterprises vs its valuation.
• Over the weekend, Kingboard Copper Foil announced a privatization proposal by parent Kingboard Chemical Group at40c per share while Spindex may see a counter takeover offer from Star Engineering at a higher than the privatization offer price of 85c per share from the founder, announced in Feb 2017. Our potential privatization and takeover picks are Venture Manufacturing, Bukit Sembawang, POSH, Mermaid, PEC and Fu Yu.
• Venture is a global provider of technology products and solutions. It is best known for its superior capabilities in Original Design Manufacturing (ODM) and in providing high mix, high-value and complex manufacturing. It is in net cash position and has fragmented shareholding structure. Founder Mr Wong has about 7% stake in Venture.
• Bukit Sembawang is one of the few developers in Singapore that still have substantially un-developed landbank in Singapore and could be an interesting target for investors looking to land-bank.
• POSH is 81.89%- owned by the Kuok group, and is a more stable long-term bet versus peers with no immediate debt concerns and positive operating cash flows YTD.
• Mermaid is c.87.3% held by the Thoresen group and its related management, leaving only S$36.6m in free-float market capitalization on the table. Additionally, Mermaid has very low debt levels versus peers, with a net gearing of only 0.04x as of 2Q16, this adds to its attractiveness as a privatization candidate.
• PEC is deemed an appealing privatization candidate, sitting on a cash hoard of S$148m with minimal debt of S$13m as of end-December 2016, close to its current market cap. In addition, it is tightly held by the founder – Ko family, which collectively owns c.65% of PEC, based on our estimate.
• For Fu Yu, the stock looks attractive for its 7.2% yield and ex-cash PE of only 3.3x for FY17F (which is the lowest among its peer group), leading to potential for a privatization or takeover offer.

Janice CHUA DBS Vickers | Yeo Kee Yan CMT DBS Vickers | Ling Lee Keng DBS Vickers | http://www.dbsvickers.com/ 2017-03-06