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Global equity markets continued advancing to record highs in 2Q21 amidst investor’s worries. Find out which equity markets performed best as well as their respective outlook in 2H21 and beyond.

iFAST Macro Research Team |  Published on 27 Jul 2021

  • Global equity markets (as gauged by the MSCI ACWI index) continued advancing to record highs in 2Q21, gaining +8% (in SGD terms). Our top three performers in the second quarter were Brazil (+23.6%), Russia (+14.5%), and Taiwan (+11.0%). 
  • Taiwan – While we are unlikely to see Taiwan equities replicate the stellar performance seen in ’20 (over +30%) and 1H21 (over +24%), we remain bullish on a strategic basis and expect decent upside potential given very favourable structural tailwinds and limited downside risks. 
  • Russia – We believe the potential upside – both price and dividend – provides a good compensation for the current mild political risk climate. Having said that, rising energy prices have driven much equity upside in 1H21 (over +24%). We have dialed back some optimism but remain broadly positive moving ahead.
  • Brazil – We see Brazilian equities as a high-risk high-reward play that is skewed positively – towards the ‘reward’ side – due to positive market and idiosyncratic factors. Equity outlook remains constructive, especially amongst the EMs, with one of the largest upside potential.

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Global equity markets (as gauged by the MSCI ACWI index) continued advancing to record highs in 2Q21, gaining +8% (in SGD terms), despite market participant’s growing cautiousness. The first half of 2Q21 was marked by more re-opening (led by Europe), rising global inoculation rate, and above-consensus inflation reading. This lead to stronger performance in cyclicals and recovery sectors as well as a broader risk-on undercurrent which helped lift global equities higher. 

The second half of 2Q21, however, told a markedly different tale. Markets were anything but calm with the Fed’s hawkish tilt, concerns over the timeline for monetary tightening, heightened fears over the delta variant spread, and the collapse in 10Y US treasury yields. This triggered an unwinding of the reflation and recovery trade, sending investors back towards Growth and defensive sectors.  As the risk-on tone began to deflate, driven by such crosscurrents, global equities traded mostly flat from late May.

That said, our top three performers in the second quarter were Brazil (+23.6%), Russia (+14.5%), and Taiwan (+11.0%) (in SGD terms) (chart 1). The first two markets, Brazil and Russia, chiefly benefited from the stellar rise in commodities prices as well as the strong reflationary undercurrent seen in the first half of 2Q21. The third market, Taiwan, was uplifted by strong global export backdrop and robust semiconductor demand, owing to the worldwide supply-chain bottleneck.

Meanwhile, the laggards in 2Q21 were predominantly Asian markets – Malaysia (-1.7%), Japan (-1.5%), and Thailand (-1.5%) – where the inability to keep Covid-19 infections under control in the face of the Delta variant spread, comparatively slower vaccine rollout, and an unwinding of the “reflation trade” resulted in such performance.

Chart 1: 2Q21 Global equities performance ranked – Major regions under our coverage

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Taiwan (+11.0%, in SGD terms)

What drove 2Q 21 performance?Taiwan’s equity market (gauged by the TWSE Index) met with a speed bump in 2Q21 after a resurgence in Covid-19 infections in mid-May. Nonetheless, i) optimism of an export-driven recovery (strong export growth numbers since April) complemented by ii) strong performance from cyclical sectors (Industrials, Materials, Consumer Disc. And Financials) as well as iii) robust semiconductor demand lifted the TWSE Index to close the quarter up 11.0%.

Equity Outlook

Taiwan’s growth outlook remains rather resilient despite the virus resurgence. We believe the outstanding export numbers should provide a buffer for Taiwan’s domestic demand malaise, limiting macro downside risks for investors. However, the inoculation rate has to improve for virus risk to be effectively contained.

Taiwanese equities’ biggest driver, its semiconductors industry (almost 40% of the index), remains in a very positive position. Firstly, Taiwan’s semicon industry should experience a structural uplift from the reshoring of investment and production due to higher tariffs on mainland China. Secondly, we expect the demand for semicon to remain tight for ’21 and possibly ‘22, fuelled by both secular (digitalisation, cloud computing) and cyclical factors (new mobile phone releases in Sep-Oct, holiday season demand for electronics). This translates to stronger profitability for the industry over the longer- term. If it is any indication of what is to come, TWSE Index’s largest member with a 29% weightage, TSMC, revised up its long-term CAGR (‘20 – ’25) to the high-end of its previously announced range of 10% – 15% due to an increased focus on supply security and a structural increase in semicon demand. 

Overall, the positive semicon – as well as the broader electronics – outlook (chart 2) implies i) strong EPS growth (63% in ’21) and ii) lower risk of earnings volatility or contraction for Taiwan equities. Both factors further suggest that potential valuation expansion may be met by upside in EPS, keeping valuation (forward PE ratio) for Taiwan equities manageable moving forward. Valuation – in terms of forward FY1 PE – is currently fairly valued at 14.7X, which is in line with the historical average (chart 3). The robust earnings growth should be the primary driver of equity and we expect an upside potential of 28% by end-’23.

Based on our projected upside, we are unlikely to see Taiwan equities replicate the stellar performance seen in ’20 (over +30%) and 1H21 (over +24%). Nonetheless, we remain bullish on a strategic (longer-term) basis given very favourable structural tailwinds as well as limited downside risks. This is the picture of Taiwan in our view. 

Key risks

In spite of our optimism, we see two main risks to keep a close eye on. Firstly, we think a rampant spread of the Delta variant can threaten Taiwan’s resilient growth via a larger hit on its services sectors. This concern is amplified by the low inoculation rate – less than 1% of Taiwan’s population is fully vaccinated. Achieving herd immunity should become a top priority to mitigate exposure to this risk. Secondly, we see a minor risk of an inventory correction in semiconductors sometime down the line when the supply-demand disequilibrium resolves itself. This can hurt the tech-heavy TWSE Index.

Chart 2: APAC (Taiwan being one of the largest players) is forecasted growth at the strongest rate in ’21 and ’22, compared to global peers

Chart 3: Taiwanese equities have de-rated significantly in April and valuation is now fair 

Chart 4: Taiwan equities’ price performance and EPS 

Table 1: Taiwan equity market projection ’21 – ’23

Taiwan (TWSE Index)FY2020FY2021FY2022FY2023
PE ratio (X)20.314.714.514.0
Projected earnings growth (YoY %)11.6%63.1%2.0%3.0%
Projected Earnings Per Share (EPS)726119212161252
Target fair price (Based on 18.0X Fair PE ratio)22,542
Potential upside (%)28.3%
Source: Bloomberg Finance L.P., iFAST estimates. Data as of 25 Jul 2021. 
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Russia (+14.5% in SGD term)

What drove performance Russia equity market’s (gauged by the RTS Index) performance in 2Q21 was chiefly driven by higher energy prices. In 2Q alone, prices of Brent crude oil gained 18% while natural gas gained 44%. This drove the strong performance in Russia’s energy sector (around 45% of the index), which accounted for at least 50% of 2Q’s total return.

Equity OutlookRussia’s growth outlook remains stable, with nothing too glaringly positive or negative. Macro headwinds, such as monetary tightening and ongoing pandemic risk, are fairly balanced with tailwinds, such as higher oil prices and rising inoculation rate. 

Equities fundamentals enjoy strong support by energy prices (chart 5), which we believe have limited near to mid-term downside given positive supply-demand dynamics and pro-inflation backdrop. As a result of the surge in energy prices and the high exposure to commodity (and related) sectors, we anticipate a robust cyclical earnings rebound of 118% in ’21. Dividends for Russian equities, another driving force of the market, are expected to hit 7.6% and 8.3% in ’21 and ‘22 respectively (chart 6), far above its historical average of 5.3%. With strong upwards move in energy prices and a history of rising payout ratio, the risk of dividend reduction should be mild. 

We expect a potential price upside of 13% by end-’23, underpinned by a constructive near to mid-term oil outlook. Valuation – in terms of forward FY PE – is trading at a 9% premium to historical average (z-score of 0.3) and does not seem stretched, suggesting room for further valuation-driven upside. The kicker, as we believe, should be the above-average annual dividend yield over the next couple of years, which should lift potential upside above 20%. 

In our view, investing in Russia is about finding the balance between political risk, oil market outlook, and upside potential. Looking ahead, we believe the potential upside – both price and dividend – provides a good compensation for the current mild political risk climate. Having said that, we note that rising energy prices have driven much equity upside for Russia in ’21 (+24% in 1H21, SGD terms). As such, we dialed back some optimism towards Russian equities but remain broadly positive moving ahead.

Key risks

As highlighted above, balancing the political risk is part of investing in Russian equities. More lately, Russia’s geopolitical risk is mounting as spats with western peers (such as US and Europe) and neighbour Ukraine are becoming more frequent. While we are not overly concerned at the moment as the political climate has pacified in recent years, we are monitoring investor’s appetite towards Russian assets. Potential sanctions and retaliations by Western peers, as seen from prior years, can trigger an exodus of flows, negatively impacting Russian assets.

Also, with Russia being ahead in the EM monetary tightening cycle, a potential slowdown – not contraction – in growth momentum remains a macro risk. Above target inflation readings and the Fed’s hawkish pivot has prompted front-loaded rate hikes in Russia, with central banks expecting to hike rate again in their July meeting. We think the number of rate hikes should be kept in view (fine balance to curb inflation) as tightening likely results in slower growth, which may be bad amidst the spread of the delta variant.

Chart 5: Rising oil prices have consistently lead EPS for Russian equities. EPS estimates move closely in tandem with oil prices.

Chart 6: Russian equities expected to offer above-average high dividend yield of 7-8% over the next 2 years

Chart 7: Russia equities’ price performance and EPS

Table 2: Russia equity market projection ’21 – ’23

Russia (RTS Index)FY2020FY2021FY2022FY2023
PE ratio (X)12.96.86.46.2
Projected earnings growth (YoY %)-52.7%117.7%6.0%4.0%
Projected Earnings Per Share (EPS)108235248258
Target fair price (Based on 7.0X Fair PE ratio)1,809
Potential upside (%)13.4%
Source: Bloomberg Finance L.P., iFAST estimates. Data as of 25 Jul 2021. 
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Brazil (+23.6% in SGD term)

What drove performance Brazilian equity market’s (gauged by the Bovespa Index) performance in 2Q 2021 was fuelled by i) a boost from Cyclicals and re-opening sectors and ii) big currency appreciation. Cyclical sectors account for almost 75% of the Bovespa index and Energy and Material sectors are the major return drivers, accounting for at least 60% of 2Q’s total return. Currency appreciation contributed significantly as well, whereby the Brazilian Real appreciated by 13.4% against Singapore dollars in 2Q21 (chart 8).

Equity OutlookBrazil’s macro has improved in recent months owing to stronger global demand and easing of restrictions. Growth should remain resilient in 2H21 and beyond, on the back of a rising inoculation rate. At the moment, rate hikes are unlikely to slow growth and that should be balanced by growth upside unlocked from possible growth-boosting reforms (tax reforms and privatization) enacted before Brazil’s 2022 election.

Brazilian equities, in aggregate, are projected to generate a staggering earnings growth of 310% in 2021, driven by base effect and a robust cyclical EPS recovery (cyclical sectors make up around 75% of the index). Brazilian equities’ strong EPS rebound and upwards revision greatly outweigh its EM peers, making them relatively more attractive from a fundamental perspective. In our view, the biggest positive factor for Brazilian equities will be its deep discount. The region is trading at a 19% discount (Forward FY PE of 11.2x vs historical average of 13.9x), making it one of the cheapest equity markets and a rare candidate for valuation expansion (chart 9). We opine that the trigger for valuation expansion could be positive market factors such as EM re-opening and/or if reflation is back in vogue.

With both cheap valuation and a stellar earnings rebound to drive equity upside, we expect a substantial upside potential of 38% by end-’23.  At the moment, we see Brazilian equities as a high-risk high-reward play that is skewed positively – towards the ‘reward’ side – due to positive market and idiosyncratic factors (upside, valuation, earnings growth). Equity outlook remains constructive entering 2H21, especially amongst the EMs, with one of the largest upside potential.

Key risks

As outlined above, Brazilian equities do come with a higher risk.  We see two major risks to keep in view in 2H21 and beyond. Collectively, these risks have the potential to delay Brazil’s valuation re-rating should they come to bear.

Firstly, a potential escalation in political risk given the ongoing political scandal revolving Bolsonaro (Brazil’s current president). History shows that political noises, especially corruption allegations (as seen from ’92, ’05, ’14, ’16, ’17), can undermine investor’s confidence in the nation and ultimately drive outflows from the Brazilian equity and currency market, resulting in a double-whammy for equity returns. 

A potential worsening of the delta variant spread is the other major risk we see. Should this scenario worsen, Brazil’s growth may again be put back in a precarious position. Policymakers have to either continue with its rate hike, to stem out inflationary pressure, or reverse hiking decisions to bolster growth and run the risk of out-of-control inflation.

Chart 8: Brazilian Real was the top performer amongst major EM currency pairs (and DM pairs)

Chart 9: Brazilian equities are trading at a steep discount (of 19%) to history  

Chart 10: Brazilian equities’ price performance and EPS

Table 3: Brazil equity market projection ’21 – ’23

Brazil (Bovespa Index)FY2020FY2021FY2022FY2023
PE ratio (X)43.611.210.49.8
Projected earnings growth (YoY %)-62.2%310.3%7.1%6.6%
Projected Earnings Per Share (EPS)2732112101201012800
Target fair price (Based on 13.5X Fair PE ratio)172,796
Potential upside (%)38.2%
Source: Bloomberg Finance L.P., iFAST estimates. Data as of 25 Jul 2021. 

The Research Team is part of iFAST Financial Pte Ltd.