Downgrading: Positive News Priced in

We are downgrading our rating for the Consumer sector to NEUTRAL, as we believe that current consumer stock valuations have already priced in the recovery in consumer sentiment. On a top-down basis, the backdrop looks positive, as seen from a surge in consumer sentiment and confidence, low inflation, and a healthy labour environment. Nonetheless, on a more granular basis, we observe that stocks under our coverage appear expensive, with only a select few undervalued stocks. We identify Aeon Co as our sector top pick.

A Relatively Subdued 2Q18, Despite Festivities and Election Boost

Overall, the consumer sector recorded core earnings growth of 5% yoy in 1HFY18, mainly driven by Nestle and QL Resources, and a profit turnaround shown by MSM. 2Q18 saw relatively subdued earnings performance for the consumer sector in general, with most of the companies under our coverage reporting earnings that were tracking behind our and consensus forecasts, despite the occurrence of the Hari Raya festive season and the first month of the zero-rated GST period.

Positive Macroeconomic Backdrop Indicates Positive Outlook…

Both the MIER Consumer Sentiment Index and the Consumer Confidence Index by Nielsen rose to multi-year highs in 2Q18, reaching 132.9 points and 117 points respectively. This was coupled with low inflation, mainly on the zero-rating of the GST from June-August 2018. The inflation effect from the SST implementation is also expected to be manageable, as it covers a smaller portion of the CPI basket compared to the GST. We believe that these factors indicate that consumer spending should remain strong.

…but Valuations Appear Demanding

We note that the KLSE Consumer Product Index and our universe of consumer sector stocks are currently trading near +2SD above the 5-year mean, mostly driven by a sharp rise in the share prices of large cap consumer staples stocks. While we believe that the defensive nature of such stocks warrant premium valuations, we believe that current valuations limit any further upside for the sector.

Downgrading to NEUTRAL

Due to the outperformance of the consumer sector ytd, we are downgrading our sector call to NEUTRAL (from OVERWEIGHT) mainly on valuation grounds. We believe that the run-up in share prices for the consumer sector, especially since the general election has already priced in the improving outlook in the consumer sector. Our top pick is Aeon Co, which should show continued earnings recovery from a better retail environment supported by steady rental revenue in property management.

Source: Affin Hwang Research - 26 Sept 2018