Market Review & Outlook December 2018 (as at 30 November 2018) Overview

US  Fed Chairman Jerome Powell struck a dovish note in a speech on 28 November 2018, prompting expectations of greater flexibility on the policy tightening schedule in 2019.  US President Trump and Chinese President Xi Jinping agreed to a truce on the trade/tariff war until Jan 2019, meaning no new tariffs on the final USD267 bil batch of Chinese shipments to the US.  US mid-term elections on 6 November 2018 delivered a split US Congress, as Democrats won control of the House of Representatives while Republicans increased their majority in Senate. Democrats are expected to curb some of the Trump administration’s stimulus spending.  The labour market remained strong in October 2018 with the unemployment rate remaining at its lowest since 1969 for the second consecutive month at 3.7% while wage growth was robust at 3.1% YoY.  Housing market data continues to signal economic weakness with NAHB Housing Market Index plunging the most since 2014, down 8 points to 60 points for November 2018.

EU  European Central Bank President Mario Draghi confirmed the plan to phase out its EUR2.6tr QE programme in December 2018 in spite of slowing growth in the Euro Area and higher borrowing cost in Italy.  The European Commission announced that it was considering ‘excessive deficit procedure’ on Italy. EU finance ministers are requesting that Italy slash its structural deficit for 2019 by 0.6% of GDP, while the Italian government wants to widen this deficit by 0.8% by its own calculations and 1.2% by the EU’s calculations.  PM Theresa May has reached a Brexit deal with the EU 27 on 25 November 2018. The UK cabinet has agreed the withdrawal agreement text on 14 November. The next step is for UK Parliament to vote on the deal on 11 December, that if rejected could see Theresa May toppled as PM.

MY  Bank Negara left its policy rate unchanged at 3.25% at its 8 November 2018 meeting, while highlighting increasing downside risks from global trade tensions and policy tightening in developed markets.  Sales and Service Tax (effective 1 September 2018) has begun to feed into inflation with CPI growth at 0.6% YoY in October 2018 after two subdued months of 0.2% YoY in August 2018 and 0.3% YoY in September 2018. • GDP growth disappointed at 4.4% YoY for 3Q2018 (consensus expectation: 4.6% YoY, 2Q2018: 4.5% YoY already decelerated from 5.4% in 1Q2018). The domestic sector remains strong but the main drag was the external sector with net export contraction of -0.7% YoY.

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Equities

GLOBAL EQUITIES

US equity market ended November with a gain of 1.7%. This was despite sentiment being fragile at the start of the month on fears of a global economic downturn given the growing US-China trade war tensions and rising interest rates in the US. Selling in technology and internet related companies as well as energy shares on continuing tumble in oil price also affected sentiment. However, market rallied on comments by Fed Reserve Chairman who hinted at a slower pace of Fed rate increases next year. In addition, investors were also hopeful for a resolution on US-China trade disputes following the confirmation of meeting between the U.S. and Chinese leaders. On the other hand, EURO Stoxx 50 Price Index closed the month with a decline of 0.8%, as market were clouded by rising political risk in Italy and uncertainty over UK’s Brexit plan. On the commodity front, the global oil and gas sector was sold down as Brent crude oil price tumbled 22% MoM to close at USD59/bbl. US crude oil production hit all-time high at 11.5 mil barrels per day in September. The oil price weakness was also affected by stronger supply outlook and weaker global demand.

ASIA PACIFIC EQUITIES

North Asian markets benefitted from the better outlook on the US-China trade talks. The Hang Seng Index rallied by 6.1% while KOSPI rose by 3.3%. Taiwan posted a marginal gain of 0.9% on weakening iPhone sales and disappointing earnings reported by hardware companies. However, victory of the KMT in the mayoral elections helped to support market. India equity market also posted a positive return of 1.6% as the decline in oil prices is beneficial to the country.

Equity markets are expected to stage a relief rally following a truce between the US and China in their trade dispute. However, potential negative impact of existing tariffs to the global economy and corporate profitability may still create market volatility, putting a cap to the rally. Hence, we continue to be neutral, adopting a defensive positioning. Reasonable market valuations coupled with decent earnings prospects should provide support to the market.

ASEAN EQUITIES

In tandem with the other emerging markets, ASEAN equities recovered by 3.6% MoM in USD terms in November. Indonesia (+10.3% MoM) was the clear outperformer helped by a sharp rebound in the Rupiah (+6.0% MoM). (-1.6% MoM) declined on a string of bad news which hit index heavyweight Genting Group and continuous weakness in oil palm planters, while Thailand (-1.1% MoM) was dragged by underperformance in O&G stocks owing to the reversal in crude oil price strength. All ASEAN currencies recovered against the USD, with Peso (+1.7%) being the second best performer after Rupiah.

In terms of forward P/E multiples, remained the cheapest at -1 S.D. relative to its 10-year historical average. Thai (+0.8 S.D.) and Vietnamese (+0.6 S.D.) stocks continued to command a premium over their respective historical valuation, although they have been overtaken by Malaysian (+1 S.D.) stocks of which prices have held up well despite earnings downgrades. We continue to pick countries with current account surplus but would look out for countries that have been underperforming such as Indonesia and the Philippines for any trading opportunities.

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MALAYSIAN EQUITIES

The KLCI was down 1.6% MoM. Bursa Malaysia Small Cap Index was worst hit, down by 4.4% MoM. Sector wise, energy, plantation and technologies were the worst performing sectors, declined by 12.8%, 6.8% and 6.8% MoM respectively. In November, foreign outflows slowed down to RM700 mil, bringing YTD foreign outflows to RM10.7 bil. The top three losers in KLCI component stocks were Genting Malaysia (-36%), Genting Bhd (-14%) and (-11%) while the best performing stocks were IHH Healthcare, and PPB Group. The oil and gas sector was sold down as Brent crude oil price tumbled by 22% MoM to close at USD59/bbl. The plantation sector was also down as CPO price plunged by 12.8% MoM to RM1,762/mt. Technology stocks were dumped in tandem with the drop in Apple share price arising from the concern of lower than expected iPhone sales. Genting Malaysia was hit by the unexpected steep 10% increase in duties to 35% during the 2019 Budget announcement.

Strategy

Global market remained volatile in November as most investors’ outlook were affected by two key upcoming events: 1) the outcome of the G20 meeting between Presidents Trump-Xi on trade tariffs; and 2) OPEC+ group meeting on oil production cuts going forward. In the US, several major technology related stocks namely the FAANG stocks have been falling during the month after delivering disappointing earnings and mixed forecasts. However, the market weakness was partially offset by the overall strong earnings in 3Q18.

The Malaysian market was also affected by the external factors mentioned above in addition to the disappointing 3Q18 earnings season. The lackluster corporate results trend is unlikely to improve anytime soon as downside risks remain elevated. Hence, our neutral stance on the local market remains. In the near term, we strive to 1) stay defensive with a balanced and diversified portfolio; 2) keep a close watch for opportunities on a technical rebound or market weakness; and 3) anchor our portfolio with good income generation.

Sectors that we remain positive on are the financial, consumer (non-discretionary), oil & gas players that skew towards maintenance, exporters, selective technology players and REITs.

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Fixed Income

ASIAN BOND MARKETS

In the Asian Dollar space, performance was positive as the market was looking for signs of positive tone relating to trade agreement between China and the US as well as the Fed Chair’s statement on interest rate outlook which appears more dovish. US Treasury prices were stronger and US dollar weaker in tandem. The High Yield space registered a marginal positive return of 0.05% while the Investment Grade space posted a stronger return of 0.58%. By countries, the top three gainers were Philippines (1.46%), Indonesia (0.98%) and Singapore (0.58%).

In the local currency space, bond performed stronger in tandem with Dollar bonds. India led the pack with a gain of 4.79% followed by Philippines at 2.77% and India at 2.67%. These net oil-importing countries benefit from the surprise drop in oil price.

There were two key developments during the month which stirred up flight-to-safety trades in the global markets. Firstly, at a meeting with President Xi after the G20 summit’s conclusion, President Trump agreed to delay by 90 days planned tariff hikes to make time for further trade negotiations. Secondly, 3- and 5- year Treasury curves inverted which triggered concerns whether the US economy is heading towards recession.

MALAYSIAN BOND MARKET

After two months of withdrawals, foreign funds increased their exposure to Malaysian government securities in October by MYR 5.0b. The month of November saw the MGS curve flatten as short to mid- term yields increased by around 4 bps whilst-long end yields declined by around 3 bps. Weakness in the short end of the curve was driven by the MYR’s decline following a plunge in crude oil prices as well as the wider fiscal deficit expected for 2019.

In contrast with the previous month, corporate bonds issuances in November were mostly not priced at the bottom end of initial yield guidance, suggesting that corporate bond investors are exercising some level of restraint amidst volatile global developments. Sizeable issuances include Sarawak Energy (AA1/Pos): MYR 1.5b, AmBank sub-debt (AA3/Sta): MYR 1.0b and Bank Islam sub-debt. We expect primary corporate issuances to dwindle in December as the market winds down for the year.

With regards to rating actions, RAM removed UMW from positive Rating Watch following its decision to not pursue the acquisition of a controlling stake in Perodua. RAM downgraded Bright Focus by two notches from AA2/Negative to A1/Negative due to unexpected deterioration in Bright Focus’ cash reserves and, in turn, its debt-servicing indicators.

In the new government’s Budget for 2019, the fiscal deficit is expected to come in at 3.7% of GDP which works out to gross government borrowings MYR113 bil for 2019. In terms of impact on sectors, the construction and telco players are expected to come under pressure as the government seeks to trim spending and expand broadband coverage respectively. With the Fed stating that interest rates are close to the neutral rate, indicating that the Fed may not hike rates as aggressively in 2019, bond traders seized on growth and trade concerns by flattening the yield curve with the 2y10y spread at a tight of 15 bps. A less hawkish Fed and lower UST yields are expected to provide support to emerging markets.

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Strategy

Portfolio Duration

Despite ongoing global and local market volatility, we expect Bank Negara to hold the OPR steady in the immediate term. The US-China trade war continues to be a key development which will set the direction for EM markets. Any move on the policy rate would depend on the pace of domestic economic growth and inflation.

Portfolio duration is targeted to stay neutral relative to benchmark in view of the expectations that rate hikes will continue in the US. However on a tactical basis, we may increase portfolio duration to above neutral to take advantage of market swings in a volatile environment.

Security Selection

We maintain focused on valuation play to take advantage of the volatile market to enhance portfolio return, favouring corporate bonds over government bonds in view of the wide corporate credit spreads. We will participate in high quality lower rated corporate bonds in the primary market which offer better yield pick-up relative to the secondary market as and when price discovery takes place for the new issuances.

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