We believe the recent hike in interest range could have a mixed impact. Theoretically speaking, interest rate hike should see negative impact to equity market. However, as the interest rate hike could widen the interest differential between MYR and USD, this may cause strengthening in ringgit and higher foreign inflow, leading to an increase in liquidity and eventually support the domestic market. Besides, the short-term positive price performance of banks should support the performance of benchmark index - FBMKLCI - as well. This is because banking sector accounts for c.33% of the index weighting. Moreover, our economist also reckons that the probability of another rate hike is relatively low and he still maintains his USDMYR year-end forecast at 3.21 (Average: 3.25). Thus, despite potential knee-jerk effects on share prices and change in investment sentiment, we believe the actual impact to Banking, E&E, Gloves MREIT, Property and Shipping sectors could be minimal as the rate hike of 25bps should have no material impact to their earnings prospect. All told, we maintain our year-end index target of 1,960. We still believe that the domestic equity market is still a liquidity driven supported by ample underlying financial liquidity. However, there are several negative factors that may potentially cap market upside and probably cause a market correction in 3Q14. In general, we prefer to adopt a Buy On Weakness (“B.O.W.”) strategy with the ideal B.O.W. levels at 1,835 and below.

Bank Negara Malaysia (BNM) has raised the overnight policy rate (OPR) by 25bps to 3.25%, after the Monetary Policy Committee (MPC) meeting yesterday - the first rate hike since May 2011.

Surprise, surprise. This is a surprise to us as in our recent issued strategy report, our market outlook, sector calls and earnings estimates are premised on an unchanged interest environment. As such, we believe there is a need to examine sector calls for sectors that are sensitive to interest rate movement (such as Banking, MREIT and Property) as well as sectors that are sensitive to ringgit movement (such as Auto, E&E, Gloves, Plantations and Shipping). Recall that we have upgraded our sector rating for (i) MREIT and (ii) Transports & Logistics to OVERWEIGHT of late. At the same time, we also maintain OVERWEIGHT call on (i) Gloves and (ii) Plantations. We are, at the same time, NEUTRAL on (i) Banking & Non-bank Financial and (ii) Property Developers and (iii) Technology.

Post the 25bps hike in interest rate, our view for sectors that are sensitive to interest rate and ringgit movement remain pretty much unchanged.

- Auto (NEUTRAL ↔). Rate hike further reinforces our conservative TIV forecast of 668,900 units, which implies a 2% growth on the back of the assumptions of the high base effect in 2H13) as we believe rate hike could put pressure on consumer spending and TIV growth in the 2H14.

- Banking (NEUTRAL ↔). Despite short-term benefits from reprising of loans, we still concern over (i) credit demand and loans growth, (ii) erosion of NIM, and (iii) higher credit cost in the longer run.

- E&E / Technology (NEUTRAL ↔). Although the OPR hike could lead to a knee-jerk strengthening of MYR vs. USD in the near-term, we see no impact to our tech companies' earnings as we share our in-house economist still maintain his USDMYR forecast. However, we do not rule out mild corrections in E&E companies' share prices as most of them rallied strongly of late.

- Glove (OVERWEIGHT ↔). While could be mildly negative in the short-term, the long-term impact, however, should be muted. This is because glove players typically hedge their currency exposure on a consistent basis, hence in theory, any positive or negative fluctuations will be offset over time. Besides, glove players normally able to pass down their cost due to their bargain power.

- MREIT (OVERWEIGHT ↔). We do not expect the hike to have any significant impact on MREITs’ earnings as MREITs have taken pre-emptive capital management measures over the last two years. We also believe the impact of this round of rate hikes on MGS yield has been priced-in by the market. However, should there be further hikes over the next 6-12 months, this may threaten our valuations and thus sector call. We maintain our 10-year MGS target at 3.80% (20bps lower than current levels) on the premise of a possible European QE.

- Plantations (OVERWEIGHT ↔). We expect the interest rate increase to have a neutral impact on CPO prices as our economist has maintained his average USDMYR rate. However, sentiment could be affected as stronger ringgit is normally negative to CPO prices as it makes CPO more expensive against soybean oil which is priced in USD.

- Property (NEUTRAL ↔). While we expect a muted impact as the market had widely anticipated the move, we are more concerned on subsequent rate hikes. Meanwhile, Budget-2015 remains a question mark. Clearly, 3Q14 is clouded with uncertainties and lack of sector news flow while the risk-reward ratio is less attractive after the rebound in 1H14.

- Transports & Logistics (OVERWEIGHT ↔). The sector would be affected, but we believe that the impact of further strengthening of MYR would be limited to currency translation losses, which could be minimal. For port operators, we opine that the total cargo volume handled is a function of both import and export cargo, therefore even any drops in export cargo could be offset by increase in import due to stronger currency. For shipping lines, the driver for charter rates are linked to the global economy rather than the local economy and usually their earnings and cost base is in USD predominantly, therefore, shielding them from fluctuations in currency in terms of demand.

Source: Kenanga