The major theme that we are expecting for the second half of 2019 is something the Japanese call “Naibu Henka”, which translates to “internal change”. This means we foresee that companies in Asia, specifically those in Japan and some in China consider improvements in capital structure to deliver value for shareholders. In the first half of 2019, US equities dominated strength in global stocks markets. It is widely accepted that much of this strength has been driven by share buyback activity, funded by strong balance sheets and cheap debt.
In the case of Japan and China, companies in both markets have incredibly strong balance sheets. This means that companies can start repatriating some of that cash back to shareholders via share buybacks. If Japanese companies buy back shares, that stimulates the EPS number, which in turn could see earnings upgrades in Japan. On the other hand, we expect China to dominate the Asia-Pacific market as MSCI continuously reallocates increased weighting to the Chinese markets. We can then expect more overseas money coming into China, stimulating the market further.
The big theme for us during the second half of this year is rotation out of US equity markets into Asian markets. Global equity investors cannot ignore the facts that valuations in Asia are far more attractive than in Western developed markets and that deference to shareholders is gaining traction.
Korea mid-year equities outlook: headwinds in 2H19F, but recovery in 2020F
The Korea Composite Stock Price Index (KOSPI) has increased 3% year-to-date, but relatively underperformed compared to other countries’ indices due to: reduced earnings of cyclical sectors leading to a faster slowdown in macroeconomic datapoints; downward pressure on corporate earnings due to external variables such as US-China trade friction; and the changes, both actual and potential, in US Fed and BOK rates.
In the second half of this year, there are three reasons why the KOSPI is likely to remain stagnant: 1) the downward cycle in 1H19 to continue into 2H19, 2) uncertainties such as the US-China and Japan-Korea trade conflicts, and 3) an earnings downturn particularly for the cyclical sectors.
The Korean economy is heavily influenced by cyclical sectors that are highly correlated to the global economy and also depend on their competitiveness against overseas players. While most of the Korean cyclical sectors experienced downward trends during the first half of 2019, each sector is expected to recover after 4Q19F.
Although we expect KOSPI to be in a boxed range in 2H19F, we have a more positive outlook for 2020, not only through the recovery of cyclical sectors, but also because we believe many reform bills that could greatly improve corporate governance have a much better chance of progression following the national election early next year.
Key factors affecting KOSPI in 2H19F-2020F
1. Cyclical and secular factors for Korean corporate earnings
2. Korea corporates’ risks and opportunities
3. US-China trade friction – an agreement between the two countries would eliminate Korean market uncertainties, a positive effect for the equity market
4. Japan-Korea trade tensions
5. Further monetary policy easing – pre-emptive rate cuts by the Fed and the BOK could be positive for the equity market
6. Korea’s political climate and corporate governance in April 2020
For further details on each of the above factors, read our full report here.
India mid-year equities outlook
After the release of their full budget for FY20, the Government of India has budgets for increased receipts despite cuts in income tax, corporate tax and goods and service tax (GST). The fiscal deficit is now projected at 3.3% of GDP, with market borrowing remaining unchanged from the interim budget. There is also a possibility of slippage in projected income tax and GST revenues.
The market is expected to get valuation support from lower bond yields. Further steps taken by the government/Reserve Bank of India to infuse liquidity into non-bank financial companies (NBFCs) should allay concerns on escalation and a deeper economic slowdown. Overall, we expect lower cost of capital along with structural reforms to drive growth in the medium term, with a lot of work to be done for the current slowdown in growth.
The key overweight sectors in India are banks/insurance, infrastructure and healthcare. We expect quality financial intermediaries to benefit from lower cost of funds, market share gains and improving asset quality. We have shifted autos to the underweight sectors, where consumer staples, cement and IT services remain.
The key concern over the budget math is possible slippage in tax collections. We estimate FY20 nominal GDP growth at 10.5% versus 11% estimated in the government’s budget. Incomes tax revenue is expected to rise 19.3% in FY20 (budget estimate) over FY19, amid a slowdown in GDP growth. Meanwhile, corporate tax revenues are projected to rise 15.4% over the same time frame.
For more details on India equities for the rest of FY19, read the full report here.
Head of Asia ex-Japan Research
Head of Research, Korea and Pan-Asia Tech / Semiconductors Research
Head of Equity Research, India
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