Three conditions at play today are setting the stage for a positive stock market close for 2020 despite the prevailing negative sentiment around the slow progress in dealing with the pandemic. Firstly, liquidity remains ample – this is key in order to fund both private and public sector recoveries; secondly, the current negative earnings cycle is expected to bottom as economic conditions recover, pointing to a better 2HCY20 with follow through momentum into 2021; and thirdly, a virtuous circle of confidence can develop very quickly on positive news of vaccine development, potentially sparking a risk-on mode in 2021. In our 3QCY20 Strategy Note “Volatility Up Ahead” released a quarter ago, we stated: “Chances of a breakthrough in treatment rises with time, but that is probably a case for 2021”. Now is the time to position for that. Continue to adopt a barbell strategy to ride the near-term political risks and bouts of anxieties over rising new Covid-19 cases. Keepweighted in large cap yielders that include the rubber gloves while having sufficient exposuresin fundamentally sound small-mid caps in the tech space. Be so bold as to dip into selected travel & leisure stocks for they offer deep value. With interest rates expected to remain low for at least another year, offsetting elevated equity risk premium and coupled with premium valuation for rubber gloves makers, the target PE multiple for the FBMKLCI remains above historical mean. Based on a blended 16.8x PE multiple on recently raised FY21 EPS of 95.5 sen (thanks to EPS upgrades in TOPGLOV and HARTA), our end 2020 target is raised from 1,590 to 1,603. We recommend OVERWEIGHT call on the following sectors: Construction, Gaming, Rubber Gloves, Technology and Utilities and UNDERWEIGHT Healthcare and Media. Our top picks for 4Q20 are: D&O (OP, TP: RM1.20), GAMUDA (OP, TP: RM4.10), GENM (OP, TP: RM2.75), HLBANK (OP, TP: RM17.00), INARI (OP, TP: RM2.50), JHM (OP; TP: RM2.00), KLCC (OP, TP: RM8.55); MRCB (OP, TP: RM0.75), TM (OP; TP: RM4.95) and TENAGA (OP, TP: RM13.95).

FBMKLCI’s 2020 and 2021 EPS lowered post 2QCY20 results earnings season but expect earnings’ turnaround in the 2HCY20:A review of 2QCY20 results and guidance led us to cut FBMKLCI 2020 and 2021’s EPS expectations for a third consecutive quarter. Overall, worse-than-expected hits were those in Gaming, Oil & Gas, Building Materials and Property sectors. As a result, on 2nd September, the FBMKLCI's FY20/21 core EPS were reduced to 68.7/91.4 sen from 78.3/93.2 sen. However, TOPGLOV’s FY08/20 results announced on 17th September led to the upgrade in both its and HART’s earnings estimates which resulted in us upgrading FY20/21 core EPS to 73.1/95.5 sen. Post these adjustments, the core EPS for FY20 represents 23% annual contraction and a rebound of 31.0% in FY21, from a lowered base. That said, we believe that earnings have bottomed in the 2QCY20, due to the worst impact of the MCO taking hold during this period. On our estimates, the FBMKLCI delivered 30.0 sen EPS in the 1HCY20 and we expect a sequential growth of 43% in the 2HCY20 to bring the full year 2020 EPS to 73.1 sen. We see strong sequential growth in the banks just on the absence of large modification losses that dragged 2QCY20 and loans to pick up, as well as the gloves sector where HARTA and TOPGLOV are seen benefitting from stronger upsurge in ASP in coming months. Sharp rebounds in PETDAG, TENAGA and SIMEPLT further contributed to this upside.

For the FBMKLCI in 2020, the EPS growth/contraction profile remains fairly similar compared to a quarter ago (see Chart 2). And that is, all sectors except rubber gloves, healthcare, plantation and the utilities sectors are expected to exhibit earnings contraction in 2020. However, the worst of earnings contractions may be over. Beyond the 2HCY20, we see higher EPS for the FBMKLCI in FY21, but whether earnings expectations will be raised depends on a number of factors. First, we look towards end October for greater clarity on where the banking sector credit cost will likely land after finalising the amount of loans that require continued assistance beyond the loan moratorium period. And second, given the strong order pipeline in 2021 on high ASPs for the gloves sector, there may be room for contributions from TOPGLOV and HARTA to be bumped up. And finally, the likelihood of SUPERMX to be included in the benchmark may raise the overall EPS given that its CY2021 earnings would by our estimates, far exceed that of Genting Malaysia’s which it should likely replace. That said, we think that investors in the gloves sector should look beyond ASP momentum to drive investment returns. It is time to consider adjusting target PE multiples towards mean reversion to reflect a sustainable base-earnings beyond CY22 that is higher than pre-Covid19 levels. Based on the assumption that SUPERMX replaces GENM in the FTSE Malaysia November review with the same weight, the FBMKLCI EPS could potentially be bumped up by close to 2%. While we like GENM and GENTING as deep value plays, the investment case for them is a normalisation in earnings that will take place more fully in 2022.

Source: Kenanga Research - 2 Oct 2020