Regional Market Strategy - DBS Research 2020-12-07: Taming COVID-19


Regional Market Strategy - Taming COVID-19

  • Outlook positive on trade partnerships, better US-China ties, vaccine rollout, low interest rates and low base earnings comparison.
  • Double digit earnings recovery across regional markets.
  • Straits Times Index end 2021 objective 3180 (+13%).
  • 3 themes - vaccine beneficiaries, cyclical value, trade diversion.

The other side of the pandemic

  • Regional equity markets head into 2021 carrying the optimism of trade partnerships, stable US-China trade ties and COVID-19 vaccines deployment across the globe that will allow the return of pre-COVID economic activities.

Opening regional trade and investments

  • The Regional Comprehensive Economic Partnership (RCEP) between the 15-member pact of ASEAN-10, China, Japan, South Korea, Australia and New Zealand will boost trade for Japan, enable tariff savings for South Korea and further promote China, Japan and South Korea’s foreign direct investment (FDI) investment in ASEAN. It’s a win-win situation for pact members.

Improving US-China trade ties, lower-for-longer rates

  • Joe Biden will be the next US president. However, the Democrats have been denied a ‘blue wave’ with Republicans still holding onto a Senate majority that will pose an obstacle for Biden’s policies. With this uncertainty on the fiscal front, the US Federal Reserve (FED) will likely maintain its ultra-low interest rates policy to support the fragile economic recovery, which provides a positive backdrop for equity markets. Biden should set the tone for a more stable and improving US-China trade ties compared to the Donald Trump era. While Biden is unlikely to remove tariffs on China overnight, he is seen progressively easing them after consulting with close allies of the US. This will trigger a similar response from China on US imports. Still, the US-China trade war and COVID-19 pandemic have caused firms to reassess and reconsider their supply chain strategies. Trade diversion will likely continue.

Get ready for vaccine jabs

  • The COVID-19 pandemic is currently in its 3rd wave as the cold winter and year-end holiday season in the northern hemisphere led to a record high surge in daily cases. The 7-day moving average of global daily new cases is more than 58,000 with the bulk coming from the US, Europe (Italy, Germany, UK, France) and developing nations such as India, Brazil and Russia. The global daily death toll is above 10,000 and a growing number of countries have been forced to reintroduce lockdowns. Equity markets have rallied over the past month despite these worrying developments as investors focus on the fast-moving vaccine developments.
  • Cyclical stocks led the equity markets rally in recent weeks buoyed by optimism about the deployment of COVID-19 vaccines. We estimate that c.38% of the world’s population will be vaccinated by end-2021 and herd immunity at c.70% inoculation achieved by end-2022. You can work-from-home (WFH) and shop online, but there isn’t such a thing as travel-from-home or holiday online.
  • We see no structural impact from COVID-19 on the travel and aviation industry. We believe that international travel will rebound sharply in months, not years, after COVID-19 vaccines are distributed across the globe. This will lead to the awaited revival of the beleaguered aviation, travel/hospitality and MICE sectors.

‘Old economy’ stocks turn youthful again

  • The relative performance of global value versus growth stocks peaked in 2006 and has been on a14-year secular downtrend since. Value stocks’ relative underperformance picked up pace starting from 2018 with the onset of the US-China trade war and worsened rapidly as COVID-19 and global lockdowns led to an exodus from traditional value sectors (e.g. banks, property, energy, conglomerates) into COVID-19 beneficiaries (e.g. pharmaceutical, internet, data centres, semiconductor, personal protective equipment (PPE)).
  • This trend reversed starting from November 2020 with Trump’s defeat and news of COVID-19 vaccine progress. We saw rotation back into value stocks. COVID-19 beneficiaries such as consumer staples (e.g. supermarkets and hypermarkets) and PPE manufacturers (e.g. gloves, masks) underperformed cyclical value stocks over the past month. This trend should continue as global economies return to pre-COVID-19 levels over the next 1 to 2 years.

3 Themes For Regional Markets In 2021

Theme 1: Taming COVID-19

  • US vaccines are coming. US vaccine development frontrunners Pfizer and Moderna reported Phase 3 test results that showed c.95% efficacy in preventing COVID-19 infections respectively. Both vaccines can be authorised for emergency use in December with as many as 60 million vaccine doses available by year end.
  • Early access to vaccines likely reserved for high risk people. These include healthcare personnel, workers in essential and critical industries, those at high risk for severe COVID-19 illness due to underlying medical conditions, and the elderly aged above 65 years. This implies that the general mass population is unlikely to get vaccinations immediately. Normalisation is a process that will likely stretch for a year or more.
  • We estimate that 38% of the global population could be vaccinated by end-2021. Equity markets are rising on optimism of a swift reversion to pre-COVID-19 norms. We think that it will be 2022 before the global population achieves herd immunity (c.70% vaccination). This takes into consideration population size and the limitations in production capacity, challenges to logistics, distribution, and administration of the vaccine. Based on our assumptions, our analysis indicates that about 38% of the current population could be vaccinated by end-2021.
  • Assumed approval for five vaccine candidates, gradual ramp up in production capacity, and 25% discount to account for potential challenges. We have assumed that 5 of the frontrunners in the Phase 3 trials will be successful in their applications. We have also assumed a ramp up in production capacity from 1H21 and applied a 25% discount to the estimated production capacity to account for the logistical, distributional and administrative challenges.
  • While mass immunity may take a while, we are positive on tourism, hospitality, and aviation sectors. We believe the worst is over for the tourism, hospitality, and aviation sectors. The improving news flow from vaccine developments and deployment, and the gradual and cautious reopening of borders through travel bubbles will lead the recovery.
  • Singapore stocks under the theme include:
    • Ascott Residence Trust (SGX:HMN)Ascott Residence Trust’s hotel assets are the most diversified among the Singapore hospitality real estate investment trusts (REITs), placing it prime position to benefit from a global vaccine distribution. Its appetite for portfolio rejuvenation remains robust despite ongoing headwinds, powered by a debt headroom of above S$1bn. Capital and liquidity reserves of S$850m serve as a safety net towards lessee rental reliefs and could potentially supplement distributions.
    • CDL Hospitality Trusts (SGX:J85) – We like CDL Hospitality Trusts’s mid-tier to luxury category of rooms and its successful track record. We believe the delay of the Tokyo Olympics to 2021 will be a catalyst for a synchronised recovery across CDL Hospitality Trusts’s portfolio as travel gradually begins to recover. It is currently trading at an attractive valuation of 0.79x price/book (P/B) which is slightly above its -2SD trading range.
    • Frasers Hospitality Trust (SGX:ACV)Frasers Hospitality Trust’s current P/B of 0.8x is beyond the -2SD range and is a steal. We believe that its cheap valuation and the sponsor’s majority stake (62%) makes Frasers Hospitality Trust a prime candidate for privatisation.
    • China Aviation Oil (SGX:G92)China Aviation Oil has net cash of c.US$400m, representing 57% of its market cap. Webelieve its key associate SPIA will bounce back firmly in2H20 as departing frequencies at Shanghai PudongInternational Airport has picked up substantially sinceMay and should drive earnings. China Aviation Oil should also seehigher supply and trading volumes driving better grossprofits as air travel gradually recovers.
    • SATS (SGX:S58) – We expect international travel to recover to pre-COVID-19 levels in 2022 with vaccine rollout. SATS should also benefit from the global air transportation of some COVID-19 vaccines given its cold storage capabilities that include 18 cold rooms and 4 temperature zones. Its S$819m cash holding will help the company weather this crisis.

Theme 2: ‘Old economy’ stocks - that youthful feeling again

  • Positive news on COVID-19 vaccines phase 3 trials have unfolded in recent weeks. This has led to a rotation out of COVID-19 beneficiaries into vaccine beneficiaries (e.g. aviation, hotel and tourism) and cyclical value stocks (e.g. banks, property, conglomerates). We see this trend continuing.
  • Value stocks are early-mid cycle recovery winners The current vaccine-led recovery optimism should see a return of the traditional sector rotation that accompanies a typical economic cycle. Banks, consumer discretionary and transportation stocks that are early recovery cycle outperformers have led the recent rally while ‘pandemic winners’ such as consumer staples, PPE manufacturers, technology and other WFH beneficiaries underperformed. We see early cycle winners maintaining their outperformance that should broaden to mid recovery cycle outperformers (e.g. industrials) in 2021 as the economic recovery unfolds.
  • Cyclical value stocks catch up as rally broadens. The spectacular bull run for PPE makers has peaked as the world prepares for COVID-19 vaccination. Technology sector should hold up better compared to PPE makers, underpinned by longer term growth potential from continued adoption of new technologies such as Internet of Things (IoT), Big Data, Artificial Intelligence (AI) and 5G. The recent strong performance of cyclical value stocks represents a broadening of the global stock market rally.
  • Our Singapore stock picks are value names trading well below average historic valuations with good recovery potential in a post-vaccine world.
    • OCBC (SGX:O39) - Current valuation is inexpensive at near 1SD below its average 15-year forward P/BV. While OCBC faces ongoing net interest margin (NIM) repricing, its non-interest income should continue to contribute positively. Some negatives, including lower net interest income and overhang from asset quality, have been priced in.
    • ComfortDelGro (SGX:C52) - Expect recovery to continue sequentially into 4Q and 2021. Its China operations are leading the recovery followed by Singapore; while UK/ Ireland remain challenging. Trading at c.1.35x P/B (between -1SD to -2SD of historical mean) as return on equity (ROE) jumps to ~9% (FY21F).
    • UOL Group (SGX:U14) - Singapore-centric property developer that rides on the progressive reopening of Singapore’s economy. UOL is well positioned to unlock the value of its commercial and hospitality assets. The stock trades at 0.65X price/net asset value (P/NAV) that is below -0.5SD of its historical average
    • Keppel Corp (SGX:BN4) – The reaffirmation of capital recycling and launch of strategic review on its offshore and marine (O&M) operations should restore confidence in the stock while improving property sentiment is another catalyst. The stock trades at 0.87x P/B (below -1SD of its 5-year mean).
    • Yangzijiang Shipbuilding (SGX:BS6) –The stock should re-rate with potential contract wins amidst a robust containership market. Yangzijiang shares are trading below net cash of S$1.13/share and unjustifiably low 0.55x P/B despite superior financials of 8% ROE and sustainable dividend per share of > 4 cents ( > 4.5% dividend yield).

Theme 3: Trade diversion

  • President-elect Joe Biden looks set to adopt a bilateral approach in handling international trade relations compared to Trump’s unilateral stance. We see an easing of the US-China trade tensions with Biden likely to review Trump’s trade tariffs that could result in a progressive roll back of US-China tariffs.
  • While Biden may be more friendly than Trump towards China, he may not entirely “play nice”. While Biden may adopt a relatively more friendly approach towards China compared to Trump, Biden will still want to maintain leverage over China to accomplish his policy goals. He acknowledges that China has exploited the international trade system and will face pressure from both Democrats and Republicans in dealing with China.
  • Even with better US-China relations, we believe firms will continue to diversify manufacturing bases. The US-China trade war and COVID-19 pandemic has caused firms to reassess and reconsider their supply chain strategies. Firms have shifted their manufacturing bases out of China to other nearby ASEAN manufacturing hubs such as Vietnam and Malaysia. Even though we are expecting an improved relationship between the US and China, we believe the trade war has and will continue to cause firms to weigh the risks of geopolitical tensions among countries and diversify their supply chains.
  • Singapore stocks under the theme include:
    • Hutchison Port Holdings Trust (SGX:NS8U) – Throughput volumes at Yantian and Kwai-Tsing ports have rebounded strongly since June. We believe that a Biden win should ease US-China trade tensions and help stabilise China’s exports to the US, which will benefit Hutchison Port Holdings Trust. The stock is currently trading at 23x FY21F P/E which is -0.6 SD below 4-year historical mean.
    • Venture Corp (SGX:V03) – We are expecting new product initiatives in its Life Science, Medical Devices & Equipment, Networking & Communications and Semiconductor segments to drive growth beyond FY20F. With its diversified geographical footprint, we believe Venture Corp is poised to benefit from the shift in supply chain. Venture Corp has a strong cash position to support the repeat of a 70 cents dividend, which works out to an attractive yield of c.3.7%.

See PDF report attached below for the complete list of regional stocks under the 3 themes.

Singapore - Recovery year ahead

  • As a small and open economy, Singapore will benefit from the anticipated regional growth improvement, a more benign US-China trade relation, the RECP and the revival in international travel as COVID-19 vaccines rollout. The country’s 2021 GDP is anticipated to recover by +5.5% y-o-y growth with the strongest quarter in 2Q21 due to the low base effect of 2Q20 which was a ‘circuit breaker’ period.
  • The manufacturing sector should continue to lead the recovery. The gradual recovery of the services sector that started with the phased easing of COVID-19 restrictions will continue into 2021. However, its recovery will likely be K-shaped led by the retail/wholesale, business and transport services sectors, while the aviation and tourism related sub-sectors are expected to pick up in 2H21.

Anticipating broad base earnings recovery

  • Risk aversion should decline further. Singapore’s Straits Times Index (STI) is trading at slightly above 13.78X (+0.5SD) 12-month forward P/E as investors look forward to a broad base cyclical earnings recovery led by banks, property, energy and consumer discretionary sectors.
  • Our STI end-2021 target of 3180 is pegged to 13x (-0.25SD) 12-month FY21 P/E.
  • Blue chips led the recent stock market rally. We see interest spilling to laggard large cap and small-mid cap stocks as the recovery broadens.

Positive on cyclical recovery, vaccine beneficiaries and yield

See PDF report attached below for complete analysis on outlook of regional market including Malaysia, Hongkong, Indonesia, Thailand, and the respective 2021 year-end targets of KLCI, Hang Seng Index, Jakarta Composite Index and SET Index.

Kee Yan YEO CMT DBS Group Research | Janice CHUA DBS Research | https://www.dbsvickers.com/ 2020-12-07
SGX Stock Analyst Report BUY MAINTAIN BUY 1.960 SAME 1.960