We revise upward our 2020 GDP forecast from -6.0% to -5.0% but maintain expectations for another 25bps OPR cut in 2H20. Although the KLCI has staged an unprecedented V-shaped recovery, a pullback could ensue triggered by rising Covid-19 count globally, souring US-China relations, domestic political uncertainty and deteriorating 2Q corporate results. Still, the pullback shouldn’t be as severe (unlike 1Q20) as liquidity factors (rejuvenated retail participation and Fed’s “unlimited QE” arsenal) would help cushion it. Our KLCI target of 1,460 is based on 2021 EPS tagged to 16.6x PE (mean during QE3).

Pandemic induced global recession. IMF has revised down its 2020 global growth forecast to -4.9% (2019: +2.9%; 2009 GFC: -0.1%) from -3.0% previously. As most countries began lockdowns in Mar with gradual easing around May-June, we expect global growth to bottom in 2Q20 before a sluggish and uneven recovery in 2H20. Given high uncertainty on the virus’ evolution, major central banks (Fed, ECB) are expected to remain their ultra-accommodative stance in 2H20.

Malaysia too will not be spared. We expect Malaysia’s GDP to contract by -5.0% in 2020 (previous: -6.0%; 2019: +4.3%). This slight upward revision takes into account sooner-than-expected domestic reopening and some government support in softening Covid-19’s impact. We anticipate 2Q20 GDP to be the trough (-12% to -15%) before registering a shallower contraction in 2H20 (avg: -4.2%) to reach full year of -5.0%. We downgrade inflation forecast to -0.5% YoY (from +0.5% YoY). Despite the negative headline inflation, share of consumer items recording price declines on a MoM basis is at 29.5%, indicating that deflation is not across the board. Given uncertain growth prospects and muted inflation, we opine that BNM still has sufficient room to ease OPR by another 25bps to 1.75% in 2H20, below the GFC level.

Pullback likely but... After tumbling to its YTD low of 1,220 (19 Mar), the KLCI staged a strong rebound to peak at 1,575 (10 June), retracing slightly thereafter. At the height of its rebound, the KLCI managed to recoup all prior “Covid-19 losses”. Still, with an inevitable recession hitting, we find it hard to not envision a pullback. Possible triggers are a worsening Covid-19 tally globally (US recently hit a new daily high), souring US China relations and domestic political uncertainty. Furthermore, deteriorating 2Q20 corporate results (alongside worst-on-record quarterly GDP) should send a reality check; 27% of companies within our coverage are expected to be in the red for 2Q20, increasing from 16% in 1Q20 and 6% in 4Q19.

…liquidity flush to cushion downside. In any case, we expect the pullback to be less severe (unlike 1Q20) as liquidity factors will help cushion this. Domestic retail participation seems rejuvenated with (i) retailers net buying RM6.5bn in 1H20, already more than doubling 2019’s RM2.4bn and (ii) 2020 average retail participation is at a decade high of 31.5%. Externally, the Fed’s “unlimited QE” arsenal could see some of this liquidity finding its way to EMs, Malaysia included. The positive link between the Fed’s balance sheet changes and net foreign flows to Bursa was evident from 2H12 to end-2015, coinciding with QE3 and its subsequent tapering/ halting. During QE3, the KLCI’s PE rerated from 14.6x to 18.5x.

KLCI target at 1,460. Valuation readings for the KLCI are mixed (vs LT mean) but tilted to the pricier side, considering the recessionary climate: (i) PE at +1SD, (ii) PE premium to ASEAN-5 at +1SD, (iii) earnings yield to MGS spread around mean and (iv) P/B at -1.5SD. Our KLCI target of 1,460 is based on 2021 EPS tagged to 16.6x PE (mean during QE3 to reflect the liquidity flush). Our top picks are a mixture of those that have relatively more resilient business nature (Tenaga, TM, Sunway, Axis), potential recovery plays (Genting, DRB, MBM, Lii Hen) and Covid-19 beneficiaries, both direct (Top Glove) and circumstantial (Bursa)

Source: Hong Leong Investment Bank Research - 2 Jul 2020