Prospects for the second half
AROUND the world, major stock markets appear to be off their lows from the year’s first half. The big question – is this a fundamentally-backed sustainable rebound or simply a continuation of the volatility most of these markets have witnessed over the year?
The shaky end of the first half of the year was caused by a worsening euro debt crisis, a patchy set of economic data from industrialised countries and concerns about growth slowing down in China. Those concerns have not abetted and global investors are wondering if the stimulus-led economic recovery is set for another challenging time.In a roundtable discussion hosted by StarBizWeek, managing editor P. GUNASEGARAM (who moderated the session), deputy editor JAGDEV SINGH SIDHU and writer YVONNE TAN posed these and other questions to fund managers Aberdeen Asset Management Sdn Bhd managing director Gerald Ambrose, Singular Asset Management Sdn Bhd managing director Teoh Kok Lin and AmResearch senior economist Manokaran Mottain.
From left: Teoh Kok Lin, Gerald Ambrose and Manokaran Mottain at Menara Star for the roundtable discussion.
From left: Teoh Kok Lin, Gerald Ambrose and Manokaran Mottain at Menara Star for the roundtable discussion.
SBW: How will the external situation affect us?
Manokaran: Although there are problems externally, demand from overseas is slowing down as a result of the crisis in the euro area.
But the Malaysian economy is not much exposed to the G3 economies. China is our major trading partner and in terms of products, we have been moving slowly towards the non-electronics sector. A decade ago, exports of electrical and electronics goods used to be more than 50% of total exports and it has now shrunk to 30%.
The economy is also moving from export to domestic driven. The latest data on exports for May showed growth of 21.9%. In March it was 36%.
The worry is exports are slowing but if you look at 2009, the first quarter was the weakest period and the base effect was greater there. In the second quarter of 2009, economies have posted gains and we are comparing based on a higher base.
May’s export growth is still strong and is not a sign of weakness. On a six-month moving average, it was at 22% in April and in May it has improved to 25%.
The Malaysian economy is still sustainable and private consumption and government spending are supporting the economies.
For the second quarter, I am looking at the economy growing by 8% and for the first half, GDP growth should be between 8% and 9%.
Even if growth should moderate to 5% to 6% in the second half, the economy should still grow between 7% and 8%. For the full year, we are looking at 8% and we don’t expect the contagion effect from the euro crisis to affect Malaysia.
Countries are already cutting back on their stimulus. Are we going to see a slowdown or contraction in the world economy?
Ambrose: I think we might. The United States is not contracting yet. The treasury and the Fed has been very accommodating and not showing any signs that they are going to raise interest rates. The recovery is not really getting that much of a grip and the situation is quite lax.
The Malaysian export model has depended quite a lot on US consumers who are bust or have very little money.
Things are changing and exports to China are accelerating. In the first five months of the year, exports to China are up remarkably and the strengthening ringgit will help stimulate domestic economy. Malaysia does not have the sick sectors such as banking and property as the developed world has, which is going to take a long time to turn around.
We are looking pretty good and growth for the year could come in between 5.5% and 8%.
This year’s growth rate will be good but what about 2011?
Teoh: If we look back to the past 3 years, we had a big collapse and in 2009 we had a big boom. The big collapse was an unusual shock to the global financial system and, therefore, we had an unprecedented synchronised global sharp reaction.
With the global authorities pumping in liquidity, we had a synchronised short-term boom.
The challenge over the next 18 to 24 months will be what the authorities will do.
In Europe, we had the austerity measures and in the United States and China, they are saying it’s still early. Now we have a diversion and that is going to pave the way for how economies are going to look at next over this period.
So the synchronisation is going to break down in 2011?
Teoh: That is not bad news. Being non-synchronised is good because it is sustainable and stable, and will avoid the big boom and bust situation.
Ambrose: I think the world has been synchronised for a long time ever since the dotcom bubble. From that, there has been synchronised growth with equities, commodities and bonds.
The United States and Western economies wanted to target inflation and the data showed that there was no problem. But that turned out to be untrue as the system used to measure this was not right. There was huge asset price inflation but a benign neglect on the shadow money system.
All the commodities and derivatives which were a straight forward product exploded and everybody started to search for higher yields and that led to people misallocating funds.
It did not affect Malaysia significantly and now, we are out of sync.
Double dip scenario?
Is there going to be a double dip recession?
Ambrose: The chance of that happening is there. What is equally depressing is that we could have a long period of sub-optimal growth. If you could cure the world’s problems by flooding the world with money and even printing money, then Robert Mugabe will be spot on. But I don’t think we can do it like that.
Manokaran: I don’t see a double dip. It could mean another recession in the euro area, but Asia is growing faster than the industrial economies. But slowing growth is inevitable in the case of the major industrialised economies.
The global central banks are united to address imbalances. Interest rates are at historical lows and leading indicators for Asian economies are least affected by the euro crisis. China’s exports to the United States and Europe are about 18% of their total exports but my big worry for Malaysia is if China were to slow down.
What is going to be the source of growth for Malaysia?
Manokaran: Apart from stimulus spending, there has been a recovery in private consumption. The Government is moving to address the constraints that is affecting private investment as the target for private investment under the 10th Malaysia Plan is 12.8%.
How confident are you that it could be achieved?
Manokaran: It will be better than the 9th Malaysia Plan. The moves and political will of the current administration are very strong and hopefully they are not going to backfire because of politics.
At the moment that is based on the New Economic Model (NEM) and the Government Transformation Programme (GTP). It is meant to address the constraints and weaknesses in the economy.
Going forward, the average growth rate of 6% under the 10MP is a little optimistic and quite challenging.
If population growth is 2% then per capita growth is only 4%, should we be growing higher than that on a per capita basis?
Ambrose: That can be achieved and all the principles of the NEM and GTP and intention for Malaysia to be driven by the private sector have got to be the right thing to do.
You cannot change overnight as Malaysia is becoming very addicted to government involvement in the overall economy and it is difficult to make the transition.
You need some foreign direct investments where there are a lot of competition from our neighbours such as Indonesia, Vietnam as well as North Asia.
What type of FDI can we compete for? What is our comparative advantage?
Ambrose: We can make a lot more use of our natural resources to move downstream. Another is industrial clusters, mainly the service sector. Insurance is very under-penetrated here and other forms of financial services. I am a fan of liberalising and allowing more foreign competition.
Malaysians will understand the competition better, be able to stand on its own two feet and the whole industry will get bigger. Whether we can do that in one five-year plan is going to be difficult.
Teoh: Malaysia is a small economy and does not have the big domestic base of the United States, China or India. We always rely on external sectors. If we do things right, we will grow very fast and if we don’t we will go backwards fast too.
For example, if you don’t do things right, you have a lot of Malaysians moving abroad and that is a drag on the economy.
The old model of cheap labour cannot work anymore. The big growth area has to be the services industry which is quite broad and wide and presumably a high per capita income.
We are sitting in an area where there is strong growth in China, India and Indonesia. How do we tap that?
Ambrose: Malaysia is lucky because it has a choice. It can choose to remain a protected and subsidised economy and blessed with fertile land and all sorts of natural resources and we can get by.
If we aim to grow at the rate of our peers. we have to liberalise and change our economy and reduce the subsidy culture. The subsidy culture leads to a misallocation of assets and if we allow cheap foreign labour, subsidised electricity and fuel, we don’t get efficient in other areas, which our competitors have.
Government policies
Do you see the Government backtracking on the subsidy issue?
Ambrose: It will do it (cut subsidies) over a long period of time. That is also the problem in the United States where it has to pump prime and reduce interest rates. It won’t get voted in if it doesn’t. It’s the same here.
Subsidies helped in the past when Malaysia was eradicating poverty and moving from underdeveloped to developing. Now we are moving from a level where subsidies should be removed.
Manokaran: Under the 10MP, subsidies are to be cut from RM18bil to RM15bil by 2015. In other words, its RM2bil to RM3bil. The Government has to be more aggressive in cutting, especially in petrol and tolls. We have to move from a subsidy mentality to a market oriented economy. People will accept the change.
Ambrose: The huge petrol price hike in 2007 affected Malaysians more than any interest rate hike or global credit crisis. Malaysians, especially the middle class, have little disposable income after their monthly expenditure on mortgage or rent, food and transport costs. If transport costs go up, then there is no discretionary spending left. That is what the Government is worried about. Much more than any other country, because of the subsidies, they don’t have much left at the end of the day.
How do you view the NEM and the GTP?
Teoh: They are integrated and parcelled together. Clearly we need to change and transform. There should be more focus on further liberalisation of the services industry. We did well in the mid-1980s when we liberalised the manufacturing sector and allowed foreigners to come in with 100% foreign ownership. It helped tremendously and even though you can argue that the value added is small, it has trained a substantial portion of workers in terms of skills and ethics.
Moving forward, given the change in the external environment, there should be no fear in liberalising the services industries. If you do that, it will increase competition. It is fine if there are locals who don’t survive. It’s a renewal process and that brings about new growth areas.
That will also lead to brain gain. We have been suffering from brain drain in the last few years and if we open up the services sectors, we can retain Malaysians and hopefully bring more people into Malaysia.
Manokaran: Developing human capital is a key area of the NEM. How do we attract talent from overseas? One, is we have to look at rules and regulations regarding visas.
The other thing is that salaries are not moving. If you look at financial services, yes, that has moved up quite a lot but the other sectors are still lagging and the Government should do something about this.
Ambrose: It looks like the Government under the NEM, GTP and 10MP wants to move onto a faster economic growth path and restructure the economy. I think that involves liberalising and putting a halt on subsidising labour.
I think the NEM is the right way to go but the problem is the Government and the ruling coalition can only go as fast as the conservatives in their coalition will allow them.
Are you happy with the way the Government has cut own expenditure and fat?
Ambrose: From a consumers point of view, the civil sector’s B2C services via the Internet has been pretty good in a lot of departments but there is still a long way to go.
Manokaran: The Government is focusing on the wrong area. Projects are being offered at inflated prices and the Government can save by going for open tenders rather then negotiated tenders.
Economic, ringgit and equities prospects
What about economic growth in 2011?
Manokaran: I am looking at 6%. Consumers and the oil and gas sectors will be the drivers of the economy along with the services sector.
Ambrose: If the NEM is to be achieved, Malaysia has to become less reliant on external demand and stimulate domestic demand. The portfolio Aberdeen Asset Management is exposed to the domestic economy by large. A lot of it is consumer-related either through making things or retail or financial services particularly the insurance and property development. I see more visible potential for growth in the domestic economy than in export demand.
Teoh: There are two potential wildcards for the Malaysian economy – how fast and aggressive we are in opening up the services sector.
China has so much foreign reserves and their policy is to invest abroad. They have started to invest in Indonesia. Malaysia is another favourite market for them based on historical ties and if we are able to attract them, then the whole dynamic will swing. We have seen some Chinese developers buy a whole condominium block to study the market in Malaysia.
Mainland Chinese are bidding and competing with Singapore developers for land auction. They are coming. It could be land, manufacturing or resources and the question is how do we target and market ourselves to them. If they do come, then the whole dynamic will change drastically.
Ambrose: That’s true. The Chinese are hungry for resources and cash rich. The foreign participation in the equities market has fallen dramatically from 27% or 28% to 21%. And the downside is minimal as Malaysia is a low beta market.
What is interesting is that the whole world thinks Asian local currencies are bound to appreciate against the developed economies and that is clearly reflected by demand in Malaysian Government Securities where the yield on the 10-year MGS is now 3.94%. It was 4.2% before Bank Negara raised interest rates by 50 basis points. You would think the yield would go up but they have come down because foreigners are buying a lot of MGS. They are happy to park their money in the ringgit. The yield is 3.94% and inflation is less than 2%. You are getting an approximate 2% real return but then they are getting the currency appreciation which people feel very confident of.
Somehow that has not translated into equities and that is a big challenge.
Teoh: The same thing is happening to Indonesia’s Bank Indonesia Certificates. For June alone the amount owned by foreigners increased by 33%. It was a huge jump. The same thing is happening in other places.
There is an expectation that Asian currencies are going to appreciate?
Ambrose: If the yuan is allowed to strengthen, then they all will. At the end of the day, their priority is to stimulate domestic demand because they see that US consumer demand is not going to grow. The American consumer is going to save a bit and repay debt, and the old business plan is changing.
Because of the easy money policy that is happening throughout the developed world, money has a way of finding its natural level and funds are finding their way to Asia. We might have a problem of excessive fund inflow and that could transform the whole economy.
Teoh: Malaysia’s beta is extremely low at 0.34 which means for every 1% movement in Asian stock markets, Malaysia will move by 0.34. The beta is low because the foreign participation is very low.
Ambrose: We don’t have a killer monicker. Indonesia has a domestic economy of 260 million people and a huge domestic economy that does not need to rely on exports. Hong Kong is the gateway to China. Singapore claims to be the regional financial centre and Thailand is the Detroit of Asia. We used to be this low-cost electronics manufacturing base for South East Asia. Those days are gone.
Teoh: One potential explanation as to why the market here is less volatile and the PE is high is there is a lot of liquidity in pension funds which are only allowed to invest a small percentage overseas. They keep buying Malaysian stocks and that should be liberalised further. Let there be competition and let them invest overseas.
Isn’t the risk greater if those funds invest more overseas?
Ambrose: A lot of institutional clients see the need to diversify. Some of the bigger institutions here are really becoming too big for the equity markets and other forms of capital markets. Diversification is good. But they are concerned they might be doing that at the time when the outlook for the local currency is looking particularly bright and the developed world currencies don’t look as bright.
Teoh: Certainly investing overseas has more risk such as currency risk. If they know the market really well then it would be less risky.
Any favourite stocks?
What are your favourite sectors and stocks?
Ambrose: I do think there is a lot of money going into the economy by way of stimulus and hard infrastructure building. Rather than expose ourselves to the construction sector directly which we find to be cyclical, we have stocks such as Lafarge Malayan Cement Bhd and Tasek Cement.
As for the services sector, we own London Pacific Insurance and Manulife Insurance. For retail and consumer demand where the middle class is emerging, we own Aeon Co (M) Bhd, Star Publications (M) Bhd, Nestle (M) Bhd, Panasonic Manufacturing Malaysia Bhd, Fraser & Neave Holdings Bhd. All these stocks we feel are well run, have a great track record, have very good free cash flow, pay off any excess cash in the form of dividends and in most cases don’t give us a lot of sleepless nights.
No banking stocks?
Ambrose: Yes. CIMB Group Holdings Bhd, Public Bank Bhd, Hong Leong Bank Bhd and Aeon Credit Service (M) Bhd. We own all of them and that’s a very good way of getting exposed to the domestic economy.
Teoh: If you look at Malaysia in the short to medium term, one of the catalysts has to be construction. We find it much easier to play through building materials. We like Lafarge and YTL Cement Bhd. That gives you a nice play.
With construction companies, you are not sure who is going to get the contracts and whether they are going to make money from the contract. We tend to be more value oriented, conservative and less trading oriented.
We also like Genting Plantations Bhd not only for their younger crop but we think they are a nice play on the Iskandar project. If the relationship between Malaysia and Singapore turns better, then that’s another good catalyst.
Malaysia is also a decent hub for investing overseas. A clear cut case is Parkson Holdings Bhd, which is not only trading at a big discount to Parkson Retail in Hong Kong but Parkson Malaysia gives a fast growth potential of Vietnam and Malaysia.
Plugging the gaps
If there are any measures you would like the Government to take, what would they be?
Manokaran: The Government’s aim is to drive the economy via stronger private investment. More attention could be given to address the bottlenecks that is hindering the inflow of private investment and FDI.
Ambrose: I would agree. All of that is caused by the Government getting too involved.
When I first came here, there was a company that was an agent selling Proton cars. It did not get involved in the design, development or expenditure. It made a lot of money. It then got a mobile phone licence, a banking licence and suddenly what was basically a government initiative turned into exposure in several sectors. And that basically crowds out the private sector. You are also seeing that in certain sectors of the industry and you are getting it to some extent in the equity market. There are too many government linked companies holding large chunks in the equity market. But that is changing as the Government realises that the private sector needs more space to develop itself.
Teoh: We have to recognise that whether we like it or not, we are living in a globalised world and an important thing is to equip all the rakyat with the skillsets that are globally competitive. To become competitive from a policy point of view, there are two things that need to be done. One is to liberalise and by facing more competition, we will make ourselves more competitive.
The other is being transparent. There is no hiding behind some opaque system of who you know instead of what you know.
by thestar.com.my
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