Stock Strategy Singapore - DBS Research 2018-07-04: Buckle Up For A Rough Ride #1 ~ 1H18 Review & 2H18 Outlook

Singapore Strategy - DBS Vickers 2018-07-04: Buckle Up For A Rough Ride Singapore Stock Market Outlook 2018 Stock Strategy

Singapore Strategy - Buckle Up For A Rough Ride

  • Selldown presents opportunity to trade on rebound in near term, staywith liquid blue chips or stocks with specific catalysts.
  • 3Q outlook clouded by triple worries – trade war leading to potentialcurrency war, rate hikes.
  • All eyes on trade war, cutting back STI YE target to 3650 in base case, and 2915 in a bear-case scenario.
  • Prefer domestic plays, recession-resistant stocks, stocks with high yield and beneficiaries of strengthening USD.

1H18 Review

1H was a roller-coaster ride!

  • We won’t blame you if you felt that 1H resembled a ride on Battlestar Galactica at Universal Studios Singapore. The benchmark Straits Times Index gyrated within a wide 11% range (-4% to +7% YTD change). STI rose to a high of 3641, just 47 points shy of our 2018 base-case objective highlighted in our 2018 Singapore Strategy report ‘Recovery, Revision, Re-rating’ back in 27 November .
  • Sentiment swung from optimism about a broader-based domestic economic recovery and improving corporate earnings to pessimism and fear of the impact of a US-China trade war and liquidity crunch as central banks adopt a more aggressive tightening path.
  • All sector indices ended down. Banks (-3.25% YTD) and consumer services (-3.26%) were the best performers while telecom (-14.34%) and technology (-10.15%) fared the worst. Share Price Performance by Sector available at SGinvestors.io.
  • Looking back, our sector overweight on bank and underweight telco calls have been proven right.

Selldown in May removed 1H’s gains

  • YTD on a relative performance basis, the MSCI Singapore Index (-7.25% YTD) outperformed the MSCI South East Asia Index (- 10.9% YTD) given the country’s relative safe-haven status. However, the Singapore market underperformed the MSCI World Index (-0.95% YTD) and the MSCI Asia Ex-Japan (- 5.11% YTD) as worries about US-China trade war and tightening liquidity took its toll on the local bourse.

Outlook – Triple whammy

Expect volatile swings in 3Q18 as risk events unfold

  • We expect 3Q18 to be a volatile quarter for equities as investors juggle between developing risk factors such as
    1. the escalating US-China trade friction,
    2. tightening liquidity,
    3. USD strength and rising bond yields
    versus a global economy that continues to be on a moderating recovery path.

Risk Event 1: Trade wars are bad and not easy to win

  • A major trade war outbreak is the risk factor that has rattled equity markets. The concern here is that a further escalation of the current trade battle will derail the ‘synchronised global recovery’ and Singapore, being a small-open economy, will be negative affected.
  • The developing trade tension between US-China will be closely monitored. Investors will be watching whether Trump carries out his threat to slap a 10% tariff on US$200bn worth of Chinese imports.
  • Trump has twitted that ‘trade wars are good and easy to win’. But we think the reality is far from that. Firstly, Trump’s first salvo on steel and aluminium imports triggered retaliatory actions not just from China but also the EU, Canada and India.
  • Worse, Trump’s argument that tariffs will save US jobs looks to be starting to backfire. The US's largest nail manufacturer Mid- Continent Nail has just laid off 60 workers and warned that all 500 employees could lose their jobs by September, blaming it on the negative effect of Trump’s steel and aluminium tariffs. Next, Harley-Davidson said it will be moving some "production" offshore after the EU hit US motorcycle imports with a 31% tariff.

US jobs – Hit by friendly fire?

  • The Tax Foundation, a US non-profit organisation that studies the impact of US tax policies, predicts 48,585 full-time job losses and a negligible -0.06% impact on long-term US GDP from the tariffs Trump has already enacted. However, this figure is set to soar to over 255,283 full-time job losses with a -0.3% impact on long-term US GDP if Mr Trump imposes tariffs on another US$200bn of Chinese products.
  • Trump had cried out ‘jobs jobs jobs’ to the American people. He could be shooting his own foot with these tariffs. It remains to be seen if he will carry out his US$200bn tariff threat.

All-out trade war the biggest fear

  • In 2017, US imported US$505bn worth of goods from China while China imported US$130bn from US. An all-out trade war, which our chief economist defines as a 10-25% tariff on all products that are traded between China and the US, could shave off 0.25% GDP from both economies’ this year, while the damage would be far greater in 2019, with both countries looking at a 0.5% or more downside. Considering that China grows at 6-7% and the US at 2-3%, the negative impact would be greater to the US than on China.
  • For Singapore, our economist sees a 0.8% downside risk to the current 3% 2018 GDP forecast and a more severe 1.5% downside risk to the current 2.7% 2019 GDP forecast in the event of an all-out trade war.

Risk Event 2: Tightening liquidity

  • A faster-than-expected pace in US rate hike was one of the risk factors that we highlighted in our 2018 outlook back in November last year. The FED signalled a tightening pace of one hike per quarter for a total of four hikes this year at the June FOMC meeting. The move is in line with our own forecast for four hikes this year and the next that will lift the FED funds rate to 2.5% by end-2018 and 3.5% by end-2019. The FED also maintained its quantitative tightening schedule with accelerating balance sheet reduction. At the same time, the ECB is set to reduce by half its bond buying to €15bn/mth by October and terminate the QE programme entirely by year-end.
  • After years of ultra-loose monetary policy, central banks are reining in liquidity and look set to tighten further going forward. This will negatively impact flows to the equity market.

Risk Event 3: Strengthening USD, higher bond yield

  • With the risk of a developing trade war occupying investors’ minds, US 10-yr bond yield has corrected to around 2.9% after touching a high of 3.12% in Q2. Still, we think US rates are unlikely to head lower amid a hawkish FED, unless US economic indicators start to falter. But this has not happened as US macro data appears to be holding relatively better than the rest of the world. DBS Research sees US 10-yr yield edging up to 3.2% by end-2018 and 3.5% by end-2019.
  • Our currency strategist says the FED's hawkish outlook continues to be the trump card for the USD this year. He sees the USDSGD strengthening further, from his original projection of 1.38 to 1.40 by year-end.
  • The combination of tightening liquidity, strengthening USD and steady bond yield could lead to more outflows from equity markets, especially if the current global trade tension worsens.

Valuation & Earnings

Not all doom and gloom, Singapore raised to Overweight

  • Despite the uncertainties, we don’t think it’s all doom and gloom ahead. DBS Research raised Singapore to Overweight from Neutral for the following reasons:
    1. Singapore equity market valuation has fallen to an attractive level - The MSCI Singapore Index 12-mth forward PE swung down by 2 standard deviations (SDs) from 14.6x (about +1SD) in January down to 12.43x (about -1SD) currently, which is deep by historical standards. Furthermore, corporate earnings revision has been on an upward path in the past three quarters.
    2. Singapore is a safe haven - Singapore is one of the few AAA-rated economies and the SGD has proven to be less volatile in times of global uncertainties. Singapore maintains a healthy current account surplus of S$20.5bn.
    3. Government policies to steer the economy towards the services sector (e.g. services, financials) have benefitted the Singapore economy this year even as growth in the manufacturing sector moderates.
    4. Rising bond yields and oil prices are not that negative for the market as banks, which form nearly 40% of STI’s weightage, and the oil & gas (O&G) sector will benefit from these increases respectively.
  • The benchmark Straits Times Index is down a steep 11% in the past two months. STI’s 12-mth forward PE valuation swung down 1SD from more than 13.5x PE (average) to 12x (-1SD) over the same period. The down move came even as corporate earnings revision has been on an upward path in the past three quarters, led by bank stocks.

Is the earnings revision cycle over?

  • We had reiterated that the upward earnings revision seen over past few quarters could lead to a re-rating of the STI, which saw it peak at 3641, or close to +1SD. Against the backdrop of the triple risks (interest rates, currency and trade war).
  • We expect potential downside risks to most sectors – oil & gas, consumer goods, technology exposed to global trade and vulnerable to external uncertainties. Downside for telecoms' earnings depend largely on the success of new player TPG’s campaign to secure new subscribers. Banks are in a sweeter spot, the stronger USD and tighter liquidity will underpin NIM recovery, although loan growth may slow if trade uncertainties
  • The only sectors with upside are domestic sectors Property and REITs, due to acquisition growth, stable recurring rental income due to easier supply for hotels, offices, and fair value gains for properties.
  • Overall, we could expect earnings cuts in the quarters ahead, given the fluid situation of the global economy. Thankfully, STI’s forecast earnings growth of 16% for 2018 allows some room for trimming, which means growth could remain fairly decent at above 10%.

Read Also:

Stock Strategy Singapore - Buckle Up For A Rough Ride #1 ~ 1H18 Review & 2H18 Outlook

Stock Strategy Singapore - Buckle Up For A Rough Ride #2 ~ Trade On Rebound

Stock Strategy Singapore - #3 Domestic And Recession-Resistant Stocks To Ride A Cautious 3Q18

Janice CHUA DBS Vickers | Kee Yan YEO CMT DBS Vickers | Lee Keng LING DBS Vickers | https://www.dbsvickers.com/ 2018-07-04
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