Overview

Sentiment has been noticeably buoyant in the first half of 2024. This is more the result of a lack of “bad news” and/or market-shaking negative developments (i.e. geopolitical flare-ups, more acute supply chain disruptions, etc) however, rather than stark improvements in global economic conditions which have remained steady. Highlight of the first half has to be the artificial intelligence-driven fervour which, amongst others, saw the share price of industry-darling NVIDIA rocket >+170% higher year-to-date to catapult the company above Microsoft Inc. as the most valuable (public-listed) globally with a market capitalization of USD3.36 trillion, at a point. Consequently, the Nasdaq Composite has also been propelled to be amongst the best-performing indices year-to-date and over the last eighteen months. Technology-heavy global markets like Taiwan have also performed admirably.

Domestically, the technology-based data centre-driven fervour has seen the previously-mundane utilities and property sector indices outperforming again this 1H 2024 (+34.9% and +26.3% year-to-date, respectively), with demand for (and announced sales of) land and power driving share prices of related companies higher. For 1H 2024, our view was for investors to “Stay the Course”, expecting that market conditions would be better, underpinned by healthier economic growth domestically (which has been fulfilled), a steadier earnings growth picture (which has been reflected) and traction from the various growth frameworks unveiled last year (relatively positively news flows), amongst others. We said the benchmark FBM KLCI would hit 1,630 points by year-end, which it topped on 23 May (six months early) at 1,632.79 points.

Expected monetary loosening in the United States (with possible weakening of the Dollar and repatriation of capital back into emerging markets) has yet to materialize, though inching closer to reality with market expectations of a September cut unchanged over the last three months) despite recent guidance by the US Federal Reserve on a December move. Amongst the better global performers year-to-date (+9.3%), the FBM KLCI is still some way off in catching up with its peers’ performances over the last eighteen months. We reckon risk premiums have risen with the risk-reward balanced skewed slightly to the downside, though we think there is still sufficient reason to remain exposed to the local market, suggesting that investors “Push the Limits”.

We revisit our four considerations presented earlier for exposure in the market

Consideration #1: Undervaluation of the Ringgit

We had previously established that the Ringgit’s convergence from relative undervaluation back to parity against the US Dollar corresponded with the FBM KLCI registering gains of +13.0% (2017/2018) and +19.2% (2020/2022) respectively, on the broad assumption that foreign investors would find (then) Malaysia’s investment proposition being an attractive one from a currency gain standpoint, in addition to its fundamental merits.

Consideration #1: Undervaluation of the RinggitWe had previously established that the Ringgit’s convergence from relative undervaluation back to parity against the US Dollar corresponded with the FBM KLCI registering gains of +13.0% (2017/2018) and +19.2% (2020/2022) respectively, on the broad assumption that foreign investors would find (then) Malaysia’s investment proposition being an attractive one from a currency gain standpoint, in addition to its fundamental merits.Figure 26: USD/MYR Exchange Rate (Quoted vs Fair Value)

By investor-type, correlation between levels of relatively-higher (~30%) foreign participation, buying interest (net buy or net sell) and corresponding movement in the benchmark FBM KLCI is more apparent on the downside (2019 and 2023), as observed in Table 4 below.

Foreign investors have oscillated between being net buyers and net sellers on a cumulative year-to-date basis. The recent two occurrences where they were net buyers were in 2017 and 2022, though performance of the benchmark FBM KLCI was on opposite spectrums. Gains in 2017 appear to be driven by local institutions with a 56% participation rate despite foreign investors being net buyers to the tune of RM10.76 billion (on a relatively-low 22.0% participation rate) then. In 2022, foreign investors were net buyers amounting to RM4.32 billion on relatively higher 27.4% participation rate, though the FBM KLCI fell 4.6% that year.

Amongst comparable-sized ASEAN emerging market regional peers, Malaysia has garnered the most interest from foreign investors over the last year, with eight of the preceding twelve months seeing net inflows.

Can we retain this interest however, in hope that a repeat of 2017 can be seen? In this regard, Malaysia’s relative strength in its economic fundamentals stands it in better stead vis-à-vis its ASEAN emerging market regional peers despite not being the most compelling, perhaps ranking it second behind Vietnam.

• Malaysia’s GDP growth is not the strongest…
•  ... but current account balance (as % of GDP) is healthy, limiting concerns on solvency
• … as budget balance (as % of GDP) also amongst the better ones, limiting (though not completely excluding) risk of sovereign ratings downgrades
• Most importantly, the Ringgit is expected to appreciate the most versus the US Dollar over a 2-year period (2023 – 2025) as compared to its peers, potentially providing foreign investors a lift from currency gains

While we are seeing some growing traction from consideration #1, the full scenario has not been played out as yet. The expected cutting in US interest rates will likely result in further repatriation of portfolio capital back to emerging markets in 2H 2024. Yes, the Ringgit is still undervalued and we stand poised to reap further gains – but is the market still undervalued vis-à-vis end-2023?

Consideration #2: Relative undervaluation of the market

We had also presented a consideration of the FBM KLCI (and by the extension, the local bourse) being relatively undervalued from a forward price-earnings perspective, relative to its historical averages.

From an ultra-long term perspective (since 1993) – a period which encompasses major market-moving events like the Asian Financial Crisis (1997/98), the Dot.Com bubble burst (2000), the Global Financial Crisis (2008/09), European Sovereign Debt Crisis (2012/13), and the COVID-19 pandemic (2020/21) – valuation of the market had slipped to 1 standard deviation (SD) below its longterm average.

The market, in the last 30 years has only ever dipped once to -3 SD during the Asian Financial Crisis and once to -2 SD pre-Global Financial Crisis – both of which were financial crises however. All other instances negative, the market has only weakened to -1 SD (before subsequently rebounding).

We opined that we were not on the precipice of another financial crisis, with uncertainties in the market (then) more confidence-related. Without any major impediments, a reversion to the mean would therefore have presented an upside of ~25%. Admittedly, we had (or are) not expecting this to be achieved over a 1- year time horizon as current underlying conditions are not conducive (i.e. economic and rate-related uncertainties) as yet, with this also premised on a longer-dated earnings cycle.

From a medium-term perspective (10-year period) meanwhile, valuation of the market had slipped to 2 standard deviations (SD) below its long-term average. Reversion to a less-bearish -1 SD would have presented an upside of ~18%.

Against the backdrop of consideration #1 (undervalued Ringgit) and the expectation of sentiment improving this year on account of healthier economic growth domestically, steadier earnings growth picture and traction from the various growth frameworks unveiled last year, the market has indeed narrowed the relative undervaluation gap. What’s the attraction of continued exposure in the domestic market however?

From an equity market standpoint, Malaysia also appears to rank second behind Vietnam given the latter’s lower valuation and more explosive earnings growth, though dividend yields are not as attractive. Thailand and Philippines are marred by earnings contractions this year while the latter’s dividend yield is also the weakest amongst the lot.

On the balance, Malaysia may not necessarily be the first port of call for foreign investors given more attractive propositions (i.e. Vietnam), though net foreign flows as exhibited in Figure 28 on page 20 appear to suggest otherwise. We believe the local bourse still retains some manner of attraction for foreign investors on the lookout for currency-related gains in addition to capital gains, though upward movement in the coming half may be limited and more volatile.

Consideration #3: Relative strength of the earnings basket

Earnings momentum was skewed further to the positive, with hits (above and/or in-line) and misses at 81%:19% (4QCY23 – 71%:29%) in the recently-concluded 1Q CY24 reporting cycle. Earnings adjustments were also reflective of the above (more upward than downward), though contributing factors to both were inconsistent – partially cost, partially business. Notably higher downward revisions in the technology sector is not a cause for concern given improving industry prospects. Earnings surprises this current quarter were broad-based and not as concentrated as in previous quarters. The current quarter saw a larger number of target price changes meanwhile, though very much due to rollovers in base valuation years.

It is observed that the quality of earnings trend has been improving over the years, though movement of the benchmark FBM KLCI has been less reflective of such.

The FBM KLCI appears more sensitive to the earnings revision ratio however, in the short term at least, with investors reacting more immediately to the expectations of earnings rather than the underlying quality of it. From a fundamental and longer-term standpoint, this is not an encouraging development as it potentially signals investors’ lack of confidence in the overall earnings quality of Malaysian companies, and may explain the liquidity-driven and tradingoriented nature of the local bourse.

The just-concluded 1Q CY24 earnings reporting reaffirms the positive momentum built from the immediate preceding quarters. The revision ratio cycle suggested then (in December 2023 and March 2024) that the short-term movement of the market should be upward, which materialized.

Will the market continue to move higher? We still think so, with this current reporting season also reflective of the improved momentum in the earnings cycle, though upside may be capped.

Consideration #4: Healthy market expectations

In this ongoing exercise of tracking consensus expectations based on 1-year forward price targets of individual component members of the FBM KLCI, it is suggested that the FBM KLCI should be at 1,755 points by mid-June 2025 as stock prices inch closer to price targets. By the end of this year (2024), it would not be unreasonable to expect that the local benchmark trades higher on its way to 1,755 points – with the arithmetic mid-way point being 1,675 points.

Call to action

We had presented, in December last year, four considerations (and the
strength/merits of each) for greater exposure into the market in 1H 2024. At that
point, we opined that:

• the Ringgit was undervalued and that foreign investors would be“encouraged” to re-enter markets – we saw that gap narrow on theback of more active trading by foreign investors
   
• the market was undervalued – we also subsequently saw a gradualreversion to the mean
   
• the earnings momentum was healthy – market has moved upward toreflect as suc
   
• consensus expectations were robust, suggesting that the FBM KLCIshould trade to 1,620 points – market has also moved upward to reflectas such

What then is the outlook for 2H 2024?

Is the Ringgit still undervalued? Yes, and we stand poised to reapfurther gains. While the gap is narrowing (Figure 26, page 19), we arestill some way off parity. The expected cutting in US interest rates willlikely result in further repatriation of portfolio capital back to emergingmarkets in 2H 2024, benefitting us in the proces

Is the market still undervalued? Relative to its historical average, lessso though arguments can be made for it. Relative to its regional peers,even lesser so though arguments can also be made for Malaysia’sinvestment merits. We believe the local bourse still retains somemanner of attraction for foreign investors on the lookout for currencyrelated gains in addition to capital gains, though upward movement inthe coming half may be limited and more volatile.

Is the earnings momentum still intact? Yes, with this current 1Q CY24reporting season also reflective of the improved momentum in theearnings cycle to suggest upward movement in the FBM KLCI, thoughupside may be capped. Investors appear less enamoured by thequality of underlying longer-term earnings trends, but focusing insteadon shorter-term earnings directio

Is consensus expectation still healthy? Yes, with the FBM KLCIexpected to be at 1,755 points by mid-June 2025 as stock prices inchcloser to price targets. By the end of this year (2024), it would not beunreasonable to expect that the local benchmark trades higher on itsway to 1,755 points – with the arithmetic mid-way point being 1,675point

On this note, two considerations appear to have weakened. With the market still being a very trading-oriented one, we continue to suggest buying on market weaknesses to ride on the liquidity-driven optimism in 2H 2024. Our year-end 2024 closing remains unchanged at 1,680 points based on ~15x (-1SD to the FBM KLCI’s short-term average) multiple to CY24 earnings, suggesting less pronounced upsides in the market vis-à-vis 1H 2024.

The negatives now outweigh the positives going into 2H 2024, in our view. While we still suggest exposure in the market, we also advocate heightened levels of vigilance. The “easy money” has already been made.

On sectors:

• Technology (OVERWEIGHT): Demand in some semiconductorsegments is seeing recovery, but the pace of recovery is uneven. AIchips and high-bandwidth memory are currently among the devices withthe highest demand, leading to increased investment and continuouscapacity expansion in these areas. According to SEMI, the globalsemiconductor industry showed signs of improvement in the firstquarter of 2024 with an uptick in i) electronic sales, ii) stabilisinginventories and iii) an increase in installed wafer fabrication (fab)capacity. Stronger industry growth is expected in 2H 2024
   
• Consumer (OVERWEIGHT): While the impact on inflationarypressures due to subsidy rationalization remains uncertain, we remainpositive on the outlook of consumer staple goods, given its defensivenature, higher consumer disposable income on EPF’s withdrawalscheme as well as salary hikes of civil servants
   
• Banking (NEUTRAL, positive bias): While we still see sectorperformance (and earnings prospects) remaining steady in 2024 goinginto 2025, risk rewards appear skewed to the downside and suggestinvestors adopt a trading-oriented stance and buy on weakness

Almost all of our suggested picks for 2024 have outperformed respective benchmarks, with the exception of D&O Green Technologies.

For the remainder of 2024 going into 2025, we continue to favour names with multi-year growth stories to capture upsides from relatively steady global and domestic economic conditions though suggest holding on to companies with better trading liquidity given higher risk premiums.

CCK Consolidated is dropped following the recent recommendation downgrade to Underperform. IJM Corporation and QL Resources are also dropped given limited price upsides to respective valuations.

Kawan Food and QES Group are included alongside CIMB Group, Dayang Enterprise, Inari Amertron, Uzma, D&O Green Technologies and Mega First Corporation as picks going into 2H 2024.

Source: PublicInvest Research - 26 Jun 2024