Strategising for 2020


  • Economy
  • Saturday, 21 Dec 2019

Strategising 2020

THE global economic environment remains fraught with uncertainties.

However, one thing is clear, and that is, the risk of a global recession in 2020 remains low.

According to the six fund managers polled by StarBizWeek, economic growth will likely be sustained through 2020, albeit at a subdued pace.

Despite the difficult backdrop, these fund managers remain confident that there are still pockets of investment opportunities that could deliver solid return for investors.

Speaking to BizWealth, Affin Hwang Asset Management Bhd director of equity strategy and advisory Gan Eng Peng, Kenanga Investors Bhd executive director & CEO Ismitz Matthew De Alwis, Public Mutual Bhd chief investment officer Lum Ming Jang, Eastspring Investments Bhd chief investment officer Doreen Choo, Principal Islamic Asset Management Sdn Bhd CEO Datuk Paduka Syed Mashafuddin and RHB Asset Management Sdn Bhd managing director Eliza Ong share how they would navigate through the volatile environment next year.

Below are their thoughts on the investment outlook for 2020:

Issues on radar

What are the issues on your radar going into 2020? And why?Gan: The things on our radar going into 2020 would be key political events such the US Presidential race and Malaysia’s power handover. Politicians determine policies, which shape economic outlook and, hence, markets.

In Malaysia’s case, muddled politics have undermined policies, which is slowing economic activity and confidence. The good news is that expectations and positioning is low – cumulative foreign equity flows have gone back to 2008-2009 levels, while domestic funds have ample liquidity on the side.

Hence, if there is a power transition in 2020, it might bring back some of the animal spirits to markets as the whole cycle of reform expectations might kick in again.

Malaysia is a unique market where large funds need to lock-in yearly realised gains in order to pay out dividends. With five out of the last six being dismal years, gains are getting slimmer. This means funds need to sell even more to obtain the same amount of gains.

Lum: Global growth to be sustained.Lum: Global growth to be sustained.

Such a phenomena tends to depress markets towards the year-end as deadlines approach. The passing of the year-end tends to bring with it a relief.

The US Presidential race and the outcome is important as it shapes the narrative on US-China tension, which has large implications on global growth and asset prices, including currencies. De Alwis: Firstly, we see secular growth drivers that will continue to benefit the tech sector in 2020. Secondly, we see value in the commodities space, particularly in oil & gas and palm oil; and thirdly, we see there are also opportunities in the construction and building materials space, as various infrastructure projects pick up their execution in 2020.

For the tech sector, growth drivers will include an accelerated rollout of 5G to benefit the equipment supply chain; AI and IoT driving hardware upgrades; and three-dimensional sensing driving camera module upgrades. All these should translate into strong demand for the tech supply chain and component manufacturers in Malaysia.

Meanwhile, oil & gas activities are starting to pick up, and they are driving demand for assets and services across the value chain. For palm oil, a shortage is estimated next year due to falling yields, slow replanting previously and rising demand from biodiesel usage in Indonesia. As investor sentiment on these sectors has been depressed for a long time, valuations are still undemanding in this space.

Lum: We have three main issues on our radar, and they are the US-China trade negotiations, global monetary policies, and US presidential election.

After having agreed in principle on the first phase of a trade deal in mid-October 2019, further developments in US-China trade relations will continue to impact business confidence as well as the growth of global trade, which will in turn affect the momentum of global economic growth.

Choo: Domestic concerns centred on policies and politics.Choo: Domestic concerns centred on policies and politics.

Meanwhile, amid slowing economic momentum, the US Federal Reserve reversed its monetary policy tightening measures in 2019.Other central banks have also reduced interest rates this year and have indicated that more rate cuts could be on the way. The pace of such actions will affect liquidity conditions in global financial markets.

On the US presidential election, scheduled for Nov 3,2020, the political rhetoric leading up to polling day may raise uncertainties, which could impact financial markets. The subsequent outcome of the election will affect US policies as well as shape its economic principles and its diplomatic relations.

Choo: We are monitoring the following: Will there be a US-China trade deal? Will global growth stabilise and stage a cyclical recovery? Or will the United States finally enter a recession in 2020? And domestically, are there any catalysts in sight?

On the US-China trade war, our base case is for it to be a protracted affair. In the short term, though, a deal may be struck, but a comprehensive and meaningful resolution is still elusive. This is because the dispute goes beyond trade into areas such as tech dominance, Intellectual Property protection and market access. Putting these bigger structural issues aside, on balance, a cessation of higher tariffs or status quo, is more likely than an escalation, given the relatively high tariffs already imposed by the two nations.

Ong: Stock selection critical amid volatilities.Ong: Stock selection critical amid volatilities.

Nevertheless, the market will stage a relief rally at any US-China trade deal. This is because most portfolios have already reflected the bulk of the bad news and are defensively positioned. Therefore, any trade truce, although temporary, will see a relief rally.

Meanwhile, our domestic concerns are centred on policies and politics. Investors are seeking more clarity in regulatory changes/policies in various sectors. Moreover, there are lingering concerns over the government’s leadership transition. In addition, the performance of the cabinet has been mixed at best.

As it stands, the Malaysian equity market remains out of favour among foreigners as evidenced by the outward fund flows.

Corporate earnings growth is critical to support the market. We expect earnings growth in 2020 to be stronger than 2019, rebounding from low base.

Generally, we see moderate EPS (earnings per share) recovery in 2020.

Malaysia is stepping into its third year of “re-set” in 2020. Therefore, investors are expecting the Government to deliver on policy reforms and develop a stronger pro-growth narrative.

Syed Mashafuddin: We expect global economic volatility to continue due to trade and geopolitical tensions.

The protracted trade war between China and the United States is still a major dampener for global growth and this is affecting the current investment environment and investor return.

Investors are still in risk-off mode in the short term, pending the resolution of the trade talk between the two world major economies.

While there seems to be some progress in the trade negotiations between two of the world’s largest economies, there might still be a synchronised global economic slowdown due to the prolonged trade wars and possibility of another trade wars, involving the United States up against the European Union and other emerging economies such as Brazil and Argentina.

Years of easy money

Syed Mashafuddin: Investors still in risk-off mode.Syed Mashafuddin: Investors still in risk-off mode.

In general, what is the outlook for 2020?Gan: Years of easy money have created distortions across many asset classes. On the upside, we think investors will get used to a lower-for-longer return scenario where asset returns are lower than historical standards.

On the downside, high asset valuation supported by low rates means slight changes to the determining variables can create sharp asset price reaction. This sounds unstable, like a house of cards, but the lesson from Japan is that such a state of easy money with slow growth can last for decades.

More so than ever, the right skill set for 2020 lies in not having a rigid market outlook, which has become inherently difficult due to binary event risks and distorted asset prices.

Instead, it is the ability to adapt to new realities. Being able to absorb new information, and review and reposition portfolios for new realities faster than the market will generate opportunities and outperformance.

De Alwis: Globally, we see a fairly neutral environment with upside capped by slowing growth in major economies such as the United States and China, while stimulus are restricted by high debt levels. Nonetheless, the downside is also supported by enhanced liquidity and interest rate cuts by central banks.

In the shorter term, the outcome of the trade negotiations will drive markets.

Longer-term black swans would include a hard landing in China and rising recession risks in the United States.

We see a similar situation for Malaysia, with gross domestic product (GDP) growth forecast to slow from 4.5% in 2019 to 4.3% in 2020 (based on the average of economists’ forecasts).

Despite the slower growth, low interest rates and stable labour market are still supportive of domestic consumption, which remains the pillar of economic expansion in 2020.

However, we may see some uncertainty at the political scene going into the mid-year in anticipation of the potential change in premiership. Barring any untoward developments, policy continuation should ensure a relatively stable investment environment.

Lum: The outlook for 2020 will largely depend on the outcome of the three factors, which we have outlined above. With Donald Trump seeking re-election in the November 2020 US presidential election, there is incentive for his administration to ensure that the US economy remains healthy.

This increases the prospect of de-escalation in US-China trade tensions, while the US Federal Reserve will likely maintain an accommodative monetary policy to provide sufficient liquidity to financial markets and sustain global economic growth.

Syed Mashafuddin: We expect the financial market to remain volatile in 2020. Some risk events that may shape up the financial landscape in 2020 includes the conclusion of Brexit in early 2020, protracted US-China trade war negotiations and the US presidential election in November.

Under such circumstances, investors will have to remain nimble and actively seek out opportunities to navigate through the volatile market movements.

Choo: The current weak global growth is partly trade-induced and affects the manufacturing sector, while the services sector continues to expand, albeit at a slower pace.

We expect this trend to continue as long a trade war weighs on global trade. But we do not expect a recession in the United States as private consumption, which makes up more than 60% of the US economy, is still resilient.

The global slowdown is well-telegraphed – investors have de-risked and are already defensively positioned. Therefore, the key call here is whether there is stabilisation and/or re-acceleration of global growth in 2020.

Overall, we believe Malaysia’s GDP will stay resilient, inflation will remain benign, current account to remain in surplus, and employment as well as consumption will remain strong.

Better demand: The container yard at Yangshan Port of Shanghai. China’s manufacturing PMI rebounded in November, suggesting improved global demand in the near term. — ReutersBetter demand: The container yard at Yangshan Port of Shanghai. China’s manufacturing PMI rebounded in November, suggesting improved global demand in the near term. — Reuters

In addition, Malaysia can potentially benefit in the event of a prolonged US-China trade war.

There is a wave of factory relocation out of China. To grab these opportunities, Malaysia needs to work hard to compete with other countries to attract foreign direct investments (FDI) so as to mitigate the impact of the trade war.

Approved FDI has jumped. However, overall, actual FDI flows have yet to rise convincingly. Therefore, we need to focus on converting approved FDI to realised FDI.

Ong: The US is not been immune to the severe slowing in global industrial production and trade volumes. The weakness in the US sectors tied to the global economy (including manufacturing, exports, wholesale trade, and transport) has started to affect US labour markets.

While tensions between the US and China are likely to continue to affect business sentiments and disrupt global trade, the recent developments towards “Phase 1” agreements are welcomed by the market. Moreover, recent communications from some US Fed officials have reacted to a potential downturn by its response could have economic benefits. Along with the US Fed, the ECB has resumed net asset purchases from November. All these accommodative policy provides support to the economy for 2020 as compared to 2019.

One should expect higher volatility with greater challengers to persist for businesses. There will be further consolidation seen across most sectors on the back of compressed margins, higher cost of operations, disruptions in technology taking away market share from players without strong niche or differentiation factors as well as lack of talent in the areas of new business models being created. However, one would also expect to see new businesses emerge that would impact the way we live and work over a period of time.

Disruptions in technology will present various opportunities for investments in areas such as 5G, AI, cloud computing, genetic therapy and immunology. Demographic changes will boost emerging markets with large-scale infrastructure investment through expansion in connectivity as well as upgrades seen inter and intra cities within and with other countries.

Global recession risk

There have been some concerns about the risk of a global recession, led by the United States, in 2020. Your take?Gan: We see a low likelihood of recession going into 2020, but instead, we see an extension of the current slow, but improving cycle. This is mainly attributable to global central banks that have become more proactive in terms of easy monetary policy.

Global central banks, including the US Fed, European Central Bank (ECB), People’s Bank of China and many others have simultaneously reduced interest rates in the past 12 months to offset the negative impacts from the US-China trade tensions and continued deleveraging reform in China.

All these should translate into a stimulative impact (the economies) and drive a period of economic optimism going into 2020.

In addition, recessions typically arise from imbalances and tight monetary policy. For example, the two recent recessions in 2001 and 2008 were caused by large build-up in debts.

As of today, we are not seeing any of that. Growth rates in borrowings remain low and banks’ balance sheets are in a better shape than before; and the US labour market remains healthy, with unemployment rate at near-historic low.

That said, global headwinds remain – damage caused by trade tariffs, combined with an ageing expansion cycle, limits a meaningful growth recovery. Hence, we expect a slow recovery, instead of a U-shaped recovery.

De Alwis: The global economic recovery, led by the US has entered into its 10th consecutive year. Not surprisingly, the cycle’s longevity along with weaker incoming data is causing many to question the durability of the current expansion.

Our assessment of a global recession in 2020 is that it has a low chance of happening, based on a numbers of factors.

First, macro policies remain largely supportive. The US has been the most active in 2019, with significant monetary and fiscal easing. While further easing is data dependent, a 25bps cut is widely expected in 2020. The ECB and Bank of Japan’s balance sheets continue to expand, and policy rates remain in negative territory with a bias to move lower, while China has loosened its monetary grip and moved on with fiscal stimulus.

Second, we see little sign of over-investments. Recessions are often related to overextensions in fixed assets or capital spending, which is noticeably missing in the current expansion.

Lastly, we believe credit growth in emerging markets (EM), led by China, has not been alarming, and few EM economies have large current account imbalances. These, coupled with relatively stable commodity prices and EM currencies, make the overall EM’s resistance to external shocks stronger.

Lum: Economists are generally predicting global growth to be sustained in 2020. Barring unforeseen circumstances, the chances of a recession in 2020 are currently perceived to be low.

After a period of brief inversion in late August 2019, the US Treasury yield curve has returned to normal upward sloping, with a positive 10-year minus two-year Treasury yield spread, which indicates that growth will remain positive for the US economy.

While US manufacturing activities have contracted amid trade uncertainties, the Purchasing Managers’ Index (PMI) for manufacturing is showing signs of stabilisation, with reading hovering at the 48-point level.

Meanwhile, China’s official manufacturing PMI rebounded into the expansion zone in November, suggesting improved global demand in the near term, following the trade truce agreed by both the US and China in mid-October 2019.

However, given the recent passing of a US bill targeting Hong Kong, it remains to be seen whether China will respond with retaliatory measures in future.

Choo: The International Monetary Fund (IMF) and World Bank have cut their global GDP forecasts for 2019, but both project a higher growth for 2020. (The IMF expects global GDP growth to pick up at 3.5% in 2020 after expanding at a projected rate of 3.2% in 2019.)

We also note that the US yield curve has not stayed meaningfully inverted [thus, implying the risk of recession has abated].

In fact, there may be an investment recovery in 2020 from the structural supply chain relocation trend out of China.

We also see signs of inventory digestion in North Asia. This could set the stage for a pickup in industrial production in 2020.

Syed Mashafuddin: In general, the global economy is still recording positive growth. The United States continues to grow at an average 2% per annum, an impressive rate given its sheer size.

China’s GDP grew 6% in the third quarter of 2019 despite uncertainties arising from the trade tensions, with big ticket infrastructure projects continuing to be the main growth driver.

Meanwhile, ASEAN economies are expected to continue growing at an average of 4%-5% next year.

With most regional economies expected to continue to post positive numbers, we do not foresee a potential recession over the next 12 months.

Ong: In August, the yield spread between two-year and 10-year US Treasury bonds moved below zero for the first time since February 2006, but this spread has since widened back to positive territory.

Currently, the probability of a US recession in the next 12 months has reduced to 29% from 37.9% in August.

Investment opportunities

Amid the uncertainties in the global financial markets, what would you be looking at in terms of investment opportunities, going into 2020?Gan: We see some clear trends, and hence, opportunities.

Introduction of 5G phones into global supply chains is an opportunity for tech companies.

The US-China trade tensions is creating a wave of outsourcing of manufacturing capacity to South-East Asian companies – a host of Malaysian manufacturers are singing the same tune that customers are knocking on their doors.

Secondly, an actual shift of manufacturing base out of China into countries like Vietnam and Malaysia as reflected in our surging FDI – this would take some time to translate into economic activity, but banks and industrial land players are prime, first beneficiaries.

Meanwhile, the slow Malaysian economy is limiting growth, and hence, reduced capital need for banks, which could throw up more cash dividends, as they are overcapitalised.

De Alwis: With risk and reward being largely balanced, we see pockets of opportunity in selected sectors, namely, technology; commodities, particularly oil & gas and palm oil; and construction and building materials.

On top of these key themes, there are also tactical opportunities in selected companies and GLCs that could undergo reform/restructuring. Examples of these include corporate restructuring to reduce cost, divestment to unlock value and M&A to consolidate market share.

Lum: Looking ahead, we feel that there are good long-term investment opportunities within the technology, robotics/ automation, healthcare and consumer sectors.

Firstly, the increasing digitalisation of business practices and consumer lifestyles will continue to drive growth in the technology and ecommerce sectors. This will be bolstered by the rising adoption of new technologies such as 5G, AI, smarthome appliances and autonomous vehicles.

Separately, the incorporation of robotics and industrial automation into manufacturing processes to improve productivity will provide investment opportunities in this sector in the coming years.

As for healthcare, the (positive) outlook for the sector is underpinned by the growing and greying population, demand for better access to healthcare as well as innovations in robotic surgery and new drug discoveries.

Lastly, quality consumer companies that are market leaders with stable growth profiles and strong balance sheets should continue to thrive amid sustained consumer spending on the back of the growing global middle class and the low interest rate environment.

Choo: First of all, we think the FBM KL Composite Index (KLCI) is fair value. So, stock picking is more important. The question is, which stocks to pick?

We believe companies that still show growth are prized in an environment with growth scarcity. We like companies with quality and resilience.

The stock-market correction in 2019 has thrown up some interesting value (opportunities), especially in the large-cap space.

We also like companies that return cash to investors. We think these dividend yielders will be increasingly powerful, as many investors seek defensive assets that provide reasonable yields amid the global wave of interest rates cut.

Dividend yielders are especially attractive when cash and bond yields go below dividend yield.

Post the strong rally in domestic fixed-income market in 2019, the risk-reward for Malaysian bonds is less attractive than Malaysian equities in 2020.

Nevertheless, we believe the domestic bond market will still stay supported in an easy-monetary-policy environment. Interest carry is still attractive, especially compared to countries with negative interest rates.

Syed Mashafuddin: We expect global uncertainties will continue to dominate in 2020 due to trade and geopolitical tensions. However, there are opportunities for growth for Islamic finance sector.

The equity market took quite a beating in 2019 due to global markets volatility. There is high demand for investment in sukuk as fixed-income market has performed exceptionally well this year due to rate cuts and easing monetary policies by central banks across the globe.

For example, Principal Islamic’s global sukuk fund’s year-to-date return is more than 10% in US dollar term. We view that the investment in sukuk and fixed income funds will still be attractive as we enter 2020 as low interest rate is expected to continue with potential of further rate cuts by central banks.

Going into the new year, the need for greater adoption of Environmental, Social and Governance (ESG) principles in Islamic finance is crucial.

It is important for fund management companies to integrate ESG factors into their investment policies, not solely for profit, but also as part of their social responsibility.

Ong: Macro uncertainty particularly in trade and politics still remains going into the New Year. Currently, with probability of recession still around 29% for the next 12 months, it suggest that investors still need to be careful in areas of the markets that are sensitive to growth. We prefer sectors that can ride on structural trends such as technology and companies with good fundamentals in country, regionally as well as globally.

Stock selection is critical and we would look at investing in companies with positive cash flow, strong governance, strong market share and ability to differentiate itself with healthy margins and continues to reinvent itself to remain relevant through a good balance of talent and technology investment.

In addition to trade and politics, monetary and fiscal policies are the other main factors that could push the economy and markets. We do think that the increased liquidity and the far more accommodative policy respond is a good start going into the New Year.

One should look into a diversified portfolio approach when investing in uncertainties taking into consideration the investment objectives, financial position as well as the currency one holds against the major currencies of the world. So multi-asset allocation can be looked into as providing a more balanced risk approach with income and yet if the markets surprise on the upside, one can still be able to participate without chasing the market unnecessarily.

While cash is king, we would advocate a “remain invested” philosophy to hedge against inflationary pressures and to make our money work harder for us.

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