STAYING defensive is the core strategy of many investment funds against the backdrop of the Iraq war and the spread of the deadly Severe Acute Respiratory Syndrome (SARS) virus, which are likely to exact a heavy toll on corporate earnings in certain sectors.
Companies that have resilient earnings and good dividend records are now the favourites of investment strategists.
This contrasts with the previous quarter's strategy of buying high beta stocks, or bombed out counters, in anticipation of a possible market rally when the Iraq war started.
We continue to advocate a defensive investment posture,'' said AmResearch executive director Gan Kim Khoon, who recommends a bottom-up instead of a top-down approach to stock picking.
His model portfolio of recommended stocks has a high concentration of value (low price-to-book or price-to-earnings ratio) and high dividend-yield counters.
For the contrarian investor, Gan said fundamentally sound companies whose shares had been beaten down because of market conditions or sector scares rather than deep-seated or structural problems could be good bargains.
G.K. Goh Research expects the KLSE to be more volatile in the second quarter, especially if the war in Iraq lasts longer than expected.
The research house also recommends that investors stick with the more resilient sectors such as construction, gaming, tobacco and utilities.
It said the second half of the year promised better prospects, particularly towards year's end when domestic catalysts would drive the market.
The recent rise in the share prices of British American Tobacco (M) Bhd (BAT), OYL Industries Bhd and brewery companies reflected the switch of investment funds to defensive counters.
BAT hit a record high of RM39 and OYL Industries soared to a five-year peak of RM23.70 last week.
Sectors that have been hard hit by current events are tourism, and airlines and hotels because travel, particularly by air, has taken a nosedive in recent weeks.
Some analysts are also concerned about the business volume of the retail sector if the SARS situation worsens in the country.
Analysts are rather cautious about the market's outlook for the second quarter given the uncertainty as to when the Iraqi conflict would finally end and when the spread of SARS would be contained.
Despite repeated assurance from the US that the outcome of the war is clear, we are not totally convinced that the post-war outlook would be better,'' said TA Securities.
Gan said there might be brief rallies if the war ended quicker than expected, or if a vaccine for SARS were developed, but these rallies would not be sustainable because concerns over the health of the US economy and its implications for the local economy and corporate earnings would overshadow positive developments on the war and SARS fronts.
On the brighter side, though, is the growing consensus that Malaysia's economy would be partially insulated from any fallout in terms of slower global trade.
Analysts expect the government's stimulus package to help cushion the economy from external shock to a certain extent.
The consensus view on the country's real gross domestic product (GDP) growth is between 4% and 4.5% this year.
However, the announcement of the stimulus measures is seen unlikely to spark a strong rally on the KLSE because those measures will mainly focus on generating medium- and long-term growth.
Analysts said the government might not continue to spur growth by pump priming as it intended to contain the budget deficit.
Incentives may be given to encourage private consumer spending and business investment in order to have the private sector drive the economy forward.
In addition, Valuecap's RM10bil investment fund would provide a floor for the KLSE, analysts said.
Although macro growth prospects remained relatively attractive, valuations had moved back to a premium to the region, said an analyst with a foreign-based stockbroking house.
He said foreign institutions looking for recovery plays were more likely to invest in other regional markets that had fallen more sharply than the KLSE in the first quarter.
Nonetheless, some analysts argue that the ample liquidity in Malaysia's economic system is sufficient to fuel a strong rally in the KLSE when the external uncertainties are removed.