KEY TAKEAWAYS

• Global economy continued to perform well on the strength of sustained recovery in advanced economies that coincided with a pickup in global trade and industrial activity.

• The controlled moderation of growth in China is balanced by expected healthy growth elsewhere, notably in advanced countries.

• Low volatility environment, both market and macro, as systemic vulnerabilities in the global financial system are kept in check, owing to strengthening global growth, structurally low interest rate and solid corporate earnings.

• Risk appetite has increased as risk premiums are falling. Investors had priced-in economic uncertainties and were jittery about geopolitical tensions.

• So far we have been somewhat puzzled by the failure of long-term G3 bond yields to rise, even though global growth and equity markets have improved.

• Defying our expectation, Indonesia’s real GDP growth has been disappointingly low.

• Growth edged up to 5.06% (Y/Y) in 3Q17 on the back of higher investment, a-pick up in net export as well as rebound in government spending.

• Although rising steadily, the output gap remained positively small, not enough to push up inflation and failed to provide further reduction in the unemployment rate.

• Private Consumption continued getting softer amid subdued inflation and a record low interest rate.

• Fixed Gross Capital Formation (FGCF) or Investment continued its robust expansion thanks to the government’s vigorous efforts to improve business climate.

• Fiscal stance in 2017 remained expansionary. However, external headwinds and slower growth have weakened revenue collection.

• Exports surged, driven largely by rising commodity prices and renewed external demand.

• Near-term outlook remains positive, supported by resilience in domestic demand and global trade.

• We estimate GDP would most likely grow 5.1% in 2017 before creeping up to 5.1% – 5.3% in 2018.

• The Jakarta Composite Index (JCI) is expected to continue its uptrend in 2018. Our base case scenario calls for return of 8.1% (6594 15.1x PE). For our best case scenario, we project a JCI gain of 18.8% (7248 16.6x PE). 

• For equity investment, we recommend two approaches, a passive Dividend Focused strategy and an active Low Volatility Equity (LOVE).

GLOBAL ECONOMY

Tailwind from Synchronized Recovery

Global economy continued to perform well on the strength of sustained recovery in advanced economies that coincided with a pickup in global trade and industrial activity.

In the U.S., the economy rolled on by growing 3% (2.3% Y/Y) in 3Q17, despite some areas were battered by hurricanes. Hurricane Harvey reduced oil & gas output while Hurricane Irma lessened agriculture production.

We expect a pickup in growth in 2018 underpinned by Consumer Spending as consumer and business confidence soar thanks to rising household wealth and income coupled with tightening job market (unemployment has declined to 4.1%). But, the resiliency of consumer confidence depends on the policy directions under the new Trump administration.

Similarly, Europe had turned in some better economic numbers. The economic growth has stepped up to 2.5% (Y/Y) in 3Q17 from 2.3% (Y/Y) in 2Q17. However, recovery in Euro area is more fragile in light of the uncertain future of the economic union.

In Japan, the economy extended its growth streak to seven consecutive quarters, the longest in nearly two decades. 3Q17 GDP rose 1.4% (Y/Y), slowed down from 2.6% (Y/Y). Exports have been central to Japan’s recovery, helped in part by a weak JPY. We believe that the recovery will continue but may lose some steam unless export maintains its growth momentum.

China has continued implementing structural changes in its economy by shifting activities from industry to services. Growth now relies more on domestic demand and less on exports. Moderate deceleration of growth to 6.5% (from 6.7% in 2016) is expected this year, in line with the government’s target, and further to 6.2% in 2018.

The Chinese government has appeared to put heavy emphasize on the maintenance of financial and fiscal stability at the expense of marginally lower growth.

In short, the controlled moderation of growth in China is balanced by expected healthy growth elsewhere.

Current State: In the Doldrums

We started this year with optimism that Indonesian economic growth would reach 5.0%-5.3%. However, so far real GDP growth has been disappointingly low.

After barely holding on to 5.0% (Y/Y) in the first two quarters, growth edged up to 5.06% (Y/Y) in 3Q17 on the back of higher investment, a-pick up in net export as well as rebound in government spending (Exhibit 8).

Exhibit 8: Real GDP (% Y/Y) By Its Components

Geographically, 58.5% of economic activities took place in Java. Sumatera gave smaller contribution, 21.5% down from 21.7% (2Q17) while contribution from Kalimantan and Sulawesi was stable at 8.1% and 6.1% respectively.

Information and Communication remained the fastest growing industry by expanding impressively 9.35% (Y/Y) following a 10.9% increase in 2Q17.

In general, the labor-intensive industries grew at faster pace in 3Q17 compared to the previous quarter. For instance, Manufacturing expanded 4.84% (Y/Y) after rising 3.54% (Y/Y). Trade (Wholesale and Retail) jumped 5.50% following a 3.78% (Y/Y) rise while Construction grew 7.13% (Y/Y) after an increase of 6.96% (Y/Y). Growth in Agriculture on the other hand eased to 2.92% (Y/Y) from 3.33% (Y/Y).

Although rising steadily, the output gap remained positively small, only 0.5% of GDP and not enough to push up inflation (Exhibit 9). In fact, headline inflation fell below 4% during July – September period amidst jump in crude oil prices and slight appreciation in USD/IDR..