Is the President to blame for our weak financial markets?

Transcription

1 Is the President to blame for our weak financial markets? Many attribute the weak performance of the stock market and the depreciation of the peso to President Duterte s ongoing war against drugs and his negative reaction to criticisms against his campaign. Although President Duterte s actions are negatively affecting investor sentiment, it is not fair to blame him completely for the stock market and the peso s weakness in our opinion. The sell-off of the stock market that began in August was triggered by the start of the ghost month and hints from the U.S. Fed that it may raise interest rates in September. The stock market s expensive valuation also gave investors an excuse to lock in gains (at its high of 8,100, the PSEi was trading at 18.7X 17EP/E, significantly above its 10 year historical average of 15.7X). Finally, there seems to be an ongoing rotation into Chinese stocks as the Chinese economy is showing signs of stabilizing. While the PSEi was down by 4.2% during the last two months, the Shanghai Composite Index was barely changed while HK s China heavy HSCEI was up by 7.0%. As far as the peso is concerned, the possibility of a Fed rate hike in September, the narrowing of the current account surplus to only 0.1% of GDP during 2Q16 and the 5.4% drop in OFW remittances for the month of July all contributed to the weakness of the peso. COLing the Shots is a monthly publication by COL which provides insights on investments opportunities based on global and local developments that could affect the market. COLing the Shots aim to provide timely and relevant information and analysis as well as a model portfolio for successful investing. Despite the negative sentiment created by President Duterte s rhetoric, we maintain our positive view on the economy and the stock market s long term prospects. President Duterte has only been in power for a few months which makes it difficult for anyone to make a good objective judgement about his performance. Moreover, despite the negative publicity surrounding his war on drugs, President Duterte s net public trust rating remains excellent at +76% based on the latest SWS survey conducted in September, down only slightly from +79% in June. The survey also showed an excellent net satisfaction rating towards the President s campaign against illegal drugs at +76%. President Duterte also has a solid, well received 10-point socio-economic agenda focused on improving the country s infrastructure and increasing productivity. This in turn should help the country attract more foreign direct investments and boost economic growth over the long term. As of today, there have been no changes as far as his 10-point socio-economic agenda is concerned. Ironically, while newspaper articles were blaming President Duterte for the poor performance of the stock market and the peso, numerous financial institutions were upgrading their GDP growth forecasts for the Philippines (by an average of 40 to 50 basis points for 2016 and 2017). Consensus is likewise forecasting the peso to remain strong, ending 2017 at USD1.000:Php Admittedly, negative investor sentiment could lead to the continuous sell-off of the stock market and the peso, although at present, the growing concerns of a December Fed rate hike and the tapering of the ECB s bond purchases are also negatively affecting equity markets and currencies globally. However, we still believe that the ongoing sell-off is an opportunity to invest in the market at cheaper valuations. At this point, the damage caused by the President s negative comments is not beyond repair. We are quite hopeful that the president will tone down his rhetoric if his trust rating drops significantly and if his economic managers inform him that economic growth is being hurt by his statements. April Lynn Tan, CFA VP & Head of Research april.tan@colfinancial.com of the COL Financial website as these may be subject to tampering or unauthorized alterations.

2 Among the stocks in our COLing the Shots list, CIC and EW delivered better than expected 1H16 earnings results which prompted us to become more bullish on the two stocks. We also recently increased our FV estimate on DNL from Php10.20/sh to Php12.80/sh after factoring in faster future revenue growth and higher margins on its specialize products. On the negative side, we saw softness in take ups of residential properties during the first half of Among the four property companies that are currently part of the COLing the Shots list, MEG and VLL are the most cautious, with MEG already showing a 17.5% drop in take up sales and VLL saying that demand from OFW buyers based in the Middle East was weak. Despite peaking residential sales, we still recommend buying ALI, RLC, MEG and VLL. Note that all four companies have sizeable leasing businesses which should allow them to weather the ongoing challenges facing the residential segment. Moreover, these challenges are only temporary as property developers are already scaling back on their launches. Demand should also eventually catch up given the country s growing population and Filipinos increasing affluence. Finally, although MEG and VLL are the most cautious when it comes to the prevailing slowdown of the residential segment, their valuations are already very attractive with MEG trading at only 11.6X 17E P/E and a steep 39% discount to NAV, and VLL trading at only 7.5X 17E P/E and a 45% discount to NAV. Shares of MBT were also sold down the past two months after the company disclosed lower than expected first half 2016 earnings results as net interest income increased by only 7.2%. However, we believe that the slowdown in net interest income growth is only temporary as MBT s lending portfolio increased by 24% y/y. The only reason why net interest income did not grow as fast is because the spike in lending materialized after the May elections, thus only contributing towards the latter part of the semester. EEI also released below expected first half 2016 profits as construction revenues fell 19.2%, accounting for only 37.8% of our full-year forecast. The underperformance was due to delays in its Skyway project as a result of right of way issues. However, we still remain positive on EEI given that its domestic backlog is at an all-time high of Php55.7 Bil. It is also in an excellent position to capitalize on the Duterte administration s focus on improving infrastructure in the country. Finally, valuations remain attractive. Even though we cut our 2017E earnings forecast, the stock currently trades at only 7.7X 17E P/E, much lower than the industry s median of 15.4X.

3 Numerous factors pull down stock market, peso The Philippine stock market and the peso have performed poorly since August. During the last two months, the PSEi fell by 4.2% driven by massive foreign selling which reached a total of Php14.3 Bil. During the same period, the peso weakened by 2.8% to a seven year low of USD1.000:Php Many attribute the weak performance of the stock market and the depreciation of the local currency to President Duterte s ongoing war against drugs and his negative reaction to criticisms against his campaign. Although President Duterte s actions are negatively affecting investor sentiment, it is not fair to blame him completely for the stock market and the peso s weakness in our opinion. As far as the Philippine market is concerned, recall that the sell-off began in August. Aside from marking the start of the ghost month, the U.S. Fed during that time hinted that it may raise interest rates in September. The prospect of a possible rate hike led to the sell-off of the Philippine market, together with other regional markets (Thailand, Indonesia) and the U.S. The stock market s expensive valuation also gave investors an excuse to lock in gains. During our midyear market briefing early last month, we already mentioned that the Philippine stock market was expensive which posed as a risk (at its high of 8,100, the PSEi was trading at 18.7X 17EP/E, significantly above its 10 year historical average of 15.7X). Finally, there seems to be an ongoing rotation into Chinese stocks. While the PSEi was down by 4.2% during the last two months, the Shanghai Composite Index was barely changed while HK s China heavy Hang Seng China Enterprise Index (HSCEI) was up by 7.0%. Note that the Chinese economy is showing signs of stabilizing. For example, China s industrial production has stayed above 6% since March of this year. Retail sales growth has also recovered to 10.6% in August after falling to a low of 10% in May. Moreover, the Chinese stock market is trading at a relatively cheaper valuation compared to the Philippines. The Shanghai composite index is trading at 12.5X 2017E P/E while the HSCEI is trading at 8.0X 2017E P/E (based on consensus estimates). As far as the peso is concerned, there are some fundamental factors that are responsible for its depreciation recently aside from concerns of a potential U.S. Fed rate hike. The Philippines current account surplus has been narrowing, reaching only 0.1% of GDP during 2Q16 as imports picked up. Moreover, just recently, the BSP disclosed that OFW remittances for the month of July fell by 5.4%, the second time that remittances fell for this year (the first time it fell was in March, but the drop was much shallower at 1.4%). The narrowing current account surplus and the weakness of OFW remittances are negative for the peso. Despite the negative sentiment created by President Duterte s rhetoric, we maintain our positive view on the economy and the stock market s long term prospects. President Duterte has only been in power for a few months which makes it difficult for anyone to make a good objective judgement about his performance. However, President Duterte has a very good track record as the mayor of Davao. Note that Davao grew by a CAGR of 6.0% during the past 10 years, outpacing the national economy s CAGR of 5.4% during the same period. Moreover, despite the negative publicity surrounding his war on drugs, President Duterte s net 3

4 public trust rating remains excellent at +76% based on the latest Social Weather Station (SWS) survey conducted in September, down only slightly from +79% in June. In fact, the survey also showed an excellent net satisfaction rating towards the President s campaign against illegal drugs at +76%. In contrast, former president Aquino s public trust rating fell to +67% in September 2010 from +83% when he was first elected in May of President Duterte also has a solid, well received 10-point socio-economic agenda. During our latest market briefing, we already talked about how the Duterte administration s focus on improving the country s infrastructure and increasing productivity should help the country attract more foreign direct investments and boost economic growth over the long term. As of today, there have been no changes as far as his 10-point socio-economic agenda is concerned. Ironically, while newspaper articles were blaming President Duterte for the poor performance of the stock market and the peso, numerous financial institutions were upgrading their GDP growth forecasts for the Philippines. Exhibit 1: Revisions in GDP growth forecast* Old New Old New Standard Chartered Bank 6.4% 6.8% 6.0% 6.7% Nomura 6.3% 6.7% 6.0% 6.3% IMF 6.0% 6.4% 6.2% 6.7% ADB 6.0% 6.4% 6.0% 6.4% *As of August and September 2016, according to newspaper reports Consensus is likewise forecasting the peso to remain strong, even with the narrowing current account surplus. Based on consensus estimates, the peso is expected to end 2017 at USD1.000:Php Some economists attribute their optimism to the favorable outlook of the economy, which in turn is expected boost foreign direct investments in the country. Admittedly, negative investor sentiment could lead to the continuous sell-off of the stock market and the peso. However, the growing concerns of a December Fed rate hike and the tapering of the European Central Bank s (ECB) bond purchases currently have a more significant impact on equity markets and currencies globally. According to Bloomberg estimates, the probability of a Fed rate hike in December has increased to 64.3% currently from a low of 7.7% in June. Meanwhile, there is speculation that the ECB will gradually reduce the size of its bond purchases by 10 Bil a month until it ends its quantitative easing measure (which is currently scheduled for March of 2017). 4

5 Exhibit 2: Probability of a Fed rate hike in December Source: Bloomberg However, we still believe that the ongoing sell-off is an opportunity to invest in the market at cheaper valuations. At this point, the damage caused by the President s negative comments is not beyond repair. We are quite hopeful that the president will tone down his rhetoric if his trust rating drops significantly and if his economic managers inform him that economic growth is being hurt by his statements. Given today s situation, I am reminded of the presentation given by Philequity during COL s SMart Money Investment Summit early in September. According to Philequity, the Philippine economy suffered from six coup attempts under the term of President Corazon Aquino ( ). GDP increased by a CAGR of only 3.3%. Despite this, the PSEi still managed to grow by 1,109.8% in value during her six year term. Investors who had bought on dips and hung on despite those difficult times were handsomely rewarded. Updates on COLing the Shots stock picks There were both positive and negative developments for our COLing the Shots stock picks during the past two months. Let s first start with the positives. Among the stocks in our COLing the Shots list, CIC and EW delivered better than expected 1H16 earnings results. CIC s 1H16 profits rose by 44.6%, already reaching 60.6% of our full year forecast. Earnings beat expectations due to the 340 basis points increase in gross margins as both its air conditioning and refrigeration segments showed significant improvements in margins. We raised our FV estimate on CIC from Php58/sh to Php62/sh after factoring in the company s stronger than expected earnings performance. Meanwhile, EW s 1H16 profits grew by 55.1%, already accounting for 56.4% of COL s full year forecast. Earnings beat expectations due to the significant growth in its lending operations (+35%) and non-interest income (+40%). 5

6 While CIC s share price continued to perform well, EW s share price suffered from a steep correction recently (the stock is down by 14.1% from its August high of Php21.90/sh). We believe that the drop is unwarranted given EW s stronger than expected results. In fact, EW is even more attractive now as it is trading at only 0.7X 17E P/BV. We continue to recommend investors to buy the stock. We recently increased our FV estimate on DNL from Php10.20/sh to Php12.80/sh after factoring in faster future revenue growth (in light of its attractive growth prospects locally and the first time contribution of its Ventura joint venture) and higher margins on its specialize products (closer to those enjoyed by its peers based in other countries). We are quite excited with the ongoing correction in DNL s share price as it could provide investors with an opportunity to buy back the stock at a much cheaper valuations. We recommend buying DNL at prices below Php11.10/sh. On the negative side, we saw softness in take ups of residential properties during the first half of During the said period, total residential take up sales amounted to Php160.2 Bil, flat compared to the same period in Among the four property companies that are currently part of the COLing the Shots list, MEG and VLL are the most cautious. Note that MEG s take up sales fell by 17.5% during the first half of Management said that sales in Metro Manila have been plateauing due to increasing supply. To mitigate this, MEG plans to diversify outside Metro Manila, but it will take more time for these projects to have a more significant contribution to sales. Although VLL still registered a 2.2% growth in take up sales, management also expressed cautiousness because demand from OFW buyers based in the Middle East was weak. Despite peaking residential sales, we still recommend buying the four property companies in the list ALI, RLC, MEG and VLL. Note that all four companies have sizeable leasing businesses which should allow them to weather the ongoing challenges facing the residential segment. Moreover, the ongoing challenges in the residential segment are only temporary as property developers are already scaling back on their launches. Demand should also eventually catch up given the country s growing population and Filipinos increasing affluence. During the first half of 2016, value of launches already fell by 30.9% to Php85.7 Bil and was much less than the total value of take up sales which reached Php160.2 Bil As discussed earlier, MEG and VLL are the most cautious when it comes to the prevailing slowdown of the residential segment. However, their valuations already reflect the said challenge. At Php4.52/sh, MEG is trading at only 11.6X 17E P/E, much lower than the sector average of 21.6X. It is also trading at a steep 39% discount to NAV (note that its residential business accounts for only 19% of NAV). Meanwhile, at Php5.20/sh, VLL is trading at only 7.5X 17E P/E, while it is trading at a 45% discount to NAV (its residential business accounts for 33.1% of NAV). Among the four property companies, ALI is our favorite. Because of its strong branding, diversified product line, and ample landbank in diversified locations, ALI was still able to grow its residential take up sales by 5.2% during 1H16 despite the more difficult market conditions. Although RLC has a bigger leasing portfolio (75% share of operating income), ALI also has a big enough leasing portfolio accounting for 40% of income, the outlook of which remains positive. Shares of MBT were also sold down the past two months (-10.2%). Shares fell after the company disclosed lower than expected first half 2016 earnings results as net interest income increased by only 7.2%. However, based on our discussion with management, we believe that the slowdown in net interest income growth is only temporary. Note that MBT s lending portfolio increased by 24% 6

7 y/y. The only reason why net interest income did not grow as fast is because the spike in lending materialized after the May elections, thus only contributing towards the latter part of the semester. Due to the recent sell-off, MBT is currently trading at only 1.15X 17E P/BV, much lower than the 17E P/BV multiple of BDO (1.7X) and BPI (2.1X). We believe that a recovery of MBT s profitability towards the second half of the year will act as a catalyst for share prices to recover closer to its fair value. EEI also released below expected first half 2016 profits as construction revenues fell 19.2%, accounting for only 37.8% of our full-year forecast. The underperformance was due to delays in its Skyway project as a result of right of way issues. However, we still remain positive on EEI given that its domestic backlog is at an all-time high of Php55.7 Bil. It is also in an excellent position to capitalize on the Duterte administration s focus on improving infrastructure in the country. Finally, valuations remain attractive. Even though we cut our 2017E earnings forecast, the stock currently trades at only 7.7X 17E P/E, much lower than the industry s median of 15.4X. Upside to our revised FV estimate of Php10.00/sh also remains significant. COLing the Shots Stock Picks Sector Stock Price FV Buy Below Buy Date Buy Price Power FGEN /20/ ALI /1/ Properties MEG /9/ RLC /22/ VLL* /1/ Consumer DNL /22/ CNPF* /22/ CIC* Banks EW* /1/ MBT /21/ Infrastructure EEI* /21/ Tourism CEB* /21/

8 Important Rating Definitions BUY Stocks that have a BUY rating have attractive fundamentals and valuations based on our analysis. We expect the share price to outperform the market in the next six to 12 months. HOLD Stocks that have a HOLD rating have either 1) attractive fundamentals but expensive valuations 2) attractive valuations but near-term earnings outlook might be poor or vulnerable to numerous risks. Given the said factors, the share price of the stock may perform merely in line or underperform in the market in the next six to twelve months. SELL We dislike both the valuations and fundamentals of stocks with a SELL rating. We expect the share price to underperform in the next six to12 months. Important Disclaimer Securities recommended, offered or sold by COL Financial Group, Inc. are subject to investment risks, including the possible loss of the principal amount invested. Although information has been obtained from and is based upon sources we believe to be reliable, we do not guarantee its accuracy and said information may be incomplete or condensed. All opinions and estimates constitute the judgment of COL s Equity Research Department as of the date of the report and are subject to change without prior notice. This report is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. COL Financial and/or its employees not involved in the preparation of this report may have investments in securities of derivatives of the companies mentioned in this report and may trade them in ways different from those discussed in this report. COL Research Team April Lynn Tan, CFA VP & Head of Research april.tan@colfinancial.com Charles William Ang, CFA George Ching Richard Lañeda, CFA Deputy Head of Research Senior Research Manager Senior Research Manager charles.ang@colfinancial.com george.ching@colfinancial.com richard.laneda@colfinancial.com Frances Rolfa Nicolas Andy Dela Cruz Justin Richmond Cheng Research Analyst Research Analyst Research Analyst rolfa.nicolas@colfinancial.com andy.delacruz@colfinancial.com justin.cheng@colfinancial.com Kyle Velasco Research Analyst kyle.velasco@colfinancial.com Contact COL Financial Group, Inc D East Tower, Philippine Stock Exchange Centre, Exchange Road, Ortigas Center, Pasig City 1605 Philippines Tel No Fax No Website: 8