Malaysia’s 4QCY19 GDP of 3.6% revealed yesterday was well below our expected 4.0%. With the 1QCY20’s Covid-19 tainted projection looking vulnerable to cuts, we lower our 2020 GDP growth forecast from 4.3% to 4.0%. And so, with the raised probability of another 25 bps OPR cut, plunging tourist arrivals and general sluggishness in retail spending, the view looks challenging for our stock market. We are almost certain to lower our 1,712 FBMKLCI target soon after the conclusion of the 2019 earnings season at this month-end. At the current level, the market is implying almost zero EPS growth for 2020 – a dire scenario against our current 7.5% growth estimate. On a lowered EPS growth of 4.5% - this being a preliminary figure -, the KLCI should find a fair value at 1,598: Our picks for the rebound are GENTING (OP; TP: RM7.00), AIRPORT (OP; TP: RM9.90), PADINI (OP; TP: RM4.00), KLK (OP, TP: RM32.90), GENM (MP; TP: RM3.30) and TAKAFUL (OP; TP: RM6.85).

Poor 4QCY19 GDP adds to gloom: In our strategy piece “This Too Shall Pass”, we raised the point that the current virus crisis could take the market down to 1,480 drawing on the experience of an 8.4% peak-to-trough sell-off during the SARS crisis of 2003. The disappointing economic prognosis from yesterday’s 4QCY19 GDP number and the ensuing street downgrades could well be the catalysts that accelerate the sell-off to sub-1,500.

Low agriculture output cuts both ways: According to Bank Negara, “growth was affected by supply disruptions in the commodities sector” that affected market sentiment. There are really two forces at work here; First is the concern that the underlying economy was weaker than expected even before the impact of Covid-19 set in (as revealed by the sluggish 4QCY19 GDP) and second, the adverse impact of Covid- 19 itself. The weakness in 4QCY19 should be seen in the context of a very poor performing agriculture (- 5.7%) and mining (-2.5%) sectors. Largely to blame for agriculture was the lower output of palm oil. Data released by MPOB revealed that production fell 16.9% YoY and 13.6% QoQ in the 4QCY19 to 4.67m tonnes. While not exactly encouraging, do not forget that it is because of falling output – this being the lagged impact of dry weather and low fertiliser application on yields - as well as the disincentive amongst smaller, less cost-efficient planters to harvest (when prices were below RM2,400/tonne) which led to sharply lower inventory levels and a recovery in CPO prices beyond RM3,000. As the plantation sector’s stock prices are far more correlated to CPO prices than they are to output, this bugbear to GDP is actually a positive for plantations.

Covid-19 won’t be around long: We see the Covid-19 impact as transitory in nature. The casualties in terms of deaths and confirmed cases so far remain concentrated within China (see table below – data as at 11 Feb 2020) whereas cases outside China accounted for just 1.1% of total. In the SARS experience, markets actually rebounded around the time when the number of daily cases peaked. With Covid-19, while experts have been hesitant to call a peak, it does appear the daily new cases are trending lower from the current peak of 4th February (see bar chart). While it must be said that it has resulted in extended post-CNY factory/establishment closures which disrupted the supply chain, work is returning albeit gradually.

Source: Kenanga Research - 13 Feb 2020