A leap in the dark
? We expect the market to remain weak with downside risks in 3Q22F, as it attempts to price in concerns over global monetary policy tightening
? Market could bottom and rebound in late-4Q, with upside likely from a more stable political system, market-friendly budget and return of foreign workers.
? We advise investors to take shelter in stocks that offer defensive earnings, high dividend yields, and benefit from tourism recovery and rising rates.
Inflation concerns more than offset recovery optimism in 1H22
KLCI’s performance in 1H22 was below our expectations as rising inflation pressures, more substantial interest rate hikes, a slowdown in China’s economic growth, and escalating sanctions related to Russian invasion of Ukraine set back expectations of a recovery in corporate earnings in 2H22F. On top of this, Malaysian corporates continue to face challenges from higher wages, delays in arrival of foreign workers and regulatory risks. This, coupled with the recent sharp fall in commodity prices, raised earnings risks and led to a de-rating in KLCI’s P/E multiple to 2 s.d. below its 3-year historical mean P/E.
Potential catalysts for the market
We believe market sentiment could stay weak with downside risks in 3Q22F, as the market attempts to price in the peak of US interest rates. Thereafter, the market could be rangebound and rebound if concerns over rate hikes or US recession risks subside. This could offer opportunities for investors looking for bargains. We see upside from a potentially stable political environment in Malaysia post the general elections, the return of foreign workers, better-than-expected tourist arrivals, easing inflationary pressures, resolution to some of the ESG concerns, a market-friendly Budget 2023 and return of strong net buy flows by local institutional investors. Overall, we expect the market to stay volatile in 2H22F.
Worst-case scenario based on previous bear markets
We tracked previous market downturns to gauge the downside risks to KLCI should the global economy fall into recession. Based on our assessment, there is potential earnings downside risks of 19.4%/17.3% to our current 10.7% 2023F KLCI EPS growth forecast, if the earnings risks resemble those of GFC/Covid-19 periods (-8.7%/-6.6%). Applying this to our target P/E of 12.9x gives us a lower KLCI target of 1,213/1,245 pts. If we were to widen the P/E discount to 3 s.d. from historical average P/E against our existing 2023F earnings projections, we arrive at a KLCI target of 1,432 points.
Lower end-2022 KLCI target to 1,506pts
We lower KLCI earnings to reflect our earnings downgrade for Top Glove and MRDIY. We now project KLCI earnings to fall 0.1% in 2022F and rise 10.7% in 2023F. This lowers our end-2022 KLCI target to 1,506pts (from 1,568pts), on unchanged 12.9x target P/E (2.5 s.d. below 3-year mean). We advise investors to take shelter in sectors with defensive earnings (utilities, telco, healthcare, consumers) and high dividend yields. We also like banks as beneficiaries of rising interest rates. The 7 themes for 2H22F are: (1) beneficiaries of rate hikes; (2) beneficiaries of weaker Ringgit; (3) high dividend yielders; (4) beneficiaries of GE15; (5) value plays; (6) ESG picks; and (7) ESG and Shariah picks. We retain RHB Bank, MRDIY and Genting Malaysia as our top three picks.
